Note 1. Unaudited Interim Consolidated Financial Statements
Interim consolidated financial statements of American Capital Strategies, Ltd. (which is referred throughout this report as “American Capital”,
the “Company”, “we” and “us”) are prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and pursuant to the requirements for
reporting on Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain disclosures accompanying annual financial statements prepared in accordance with GAAP are omitted. In the opinion of management, all adjustments, consisting solely of
normal recurring accruals, necessary for the fair presentation of financial statements for the interim periods have been included. The current period’s results of operations are not necessarily indicative of results that ultimately may be
achieved for the year. The unaudited interim consolidated financial statements and notes thereto should be read in conjunction with the consolidated financial statements and notes thereto included in our Form 10-K, as filed with the Securities and
Exchange Commission (“SEC”).
Note 2. Organization
We are a non-diversified, closed end investment company that has elected
to be regulated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (“1940 Act”). We operate so as to qualify to be taxed as a regulated investment company (“RIC”) as defined
in Subtitle A, Chapter 1, under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”). As a BDC, we invest in and sponsor management and employee buyouts, invest in private equity sponsored buyouts, provide
capital directly to early stage and mature private and small public companies, invest in commercial mortgage backed securities (“CMBS”) and collateralized debt obligation (“CDO”) securities and invest in investment funds managed
by us. We are also a publicly traded alternative asset manager. Our primary business objectives are to increase our taxable income, net operating income and net asset value by investing in senior debt, subordinated debt and equity of private and
public companies with attractive current yields and/or potential for equity appreciation and realized gains and by investing in our alternative asset manager business.
We are the sole shareholder of American Capital Financial Services, Inc. (“ACFS”). Through ACFS, we provide advisory, management
and other services to businesses, principally our portfolio companies. We are also the sole member of American Capital, LLC. American Capital, LLC was formed in the second quarter of 2007 as a parent holding company to hold all American Capital
owned third party alternative asset fund managers. Accordingly, American Capital, LLC is parent to European Capital Financial Services (Guernsey) Limited (“ECFS”), American Capital Asset Management, LLC (“ACAM”), American Capital
Equity Management, LLC (“ACEM”) and American Capital CRE Management, LLC. American Capital, LLC is treated as a portfolio company investment and carried at a fair value of $562 million on the accompanying balance sheet at
September 30, 2007.
We, along with American Capital, LLC,
are headquartered in Bethesda, Maryland, and have offices in Boston, Chicago, Dallas, Los Angeles, New York, Palo Alto, Philadelphia, Providence, San Francisco, London, Paris, Frankfurt and Madrid.
Note 3. Consolidation
Under the investment company rules and regulations pursuant to Article 6 of Regulation S-X and the AICPA Audit and
Accounting Guide for Investment Companies (the “Investment Company Guide”), we are precluded from consolidating any entity other than another investment company. An exception to the guidance in
41
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
the Investment Company Guide occurs if the investment company has an investment in a controlled operating company that provides services to the investment
company. Our consolidated financial statements include the accounts of controlled operating companies if all or substantially all of the services provided by these operating companies are to us or to portfolio companies in which we hold
substantially all of the ownership interests. ACFS is a consolidated operating company as it is considered to provide all or substantially all of its services to American Capital. If our ownership interest in a portfolio company that a consolidated
operating company manages or provides services to were to decrease, the operating subsidiary may no longer be considered to provide substantially all of its services directly or indirectly to us, resulting in the deconsolidation of such operating
subsidiary at that time. In addition, if a consolidated operating company were to begin providing services to third parties, the operating subsidiary may no longer be considered to provide substantially all of its services directly or indirectly to
us, resulting in the deconsolidation of such operating subsidiary at that time. Our investments in other investment companies or funds are recorded as investments in the accompanying interim consolidated financial statements and are not
consolidated.
During the second quarter of 2007, we
transferred the ownership of our wholly-owned fund managers, ECFS, ACAM and ACEM, to American Capital, LLC, our newly created wholly-owned portfolio company, through which we conduct our third party alternative asset fund management business.
American Capital’s consolidated financial statements had
previously included the accounts of ECFS as all or substantially all of ECFS’ services were provided indirectly to American Capital through European Capital Limited (“ECAS”), a controlled portfolio company in which we had a
significant ownership interest. As a result of the ECAS initial public offering (“IPO”) in May 2007 (See Note 12), American Capital’s ownership interest in ECAS was diluted and ECFS was no longer considered to be providing
substantially all of its services directly or indirectly to us or our portfolio companies. As a result, in accordance with our consolidation policy and GAAP, ECFS was deconsolidated prospectively during the second quarter of 2007 and is recorded at
fair value on our balance sheet as part of the fair value of American Capital, LLC, ECFS’ parent and our portfolio investment. During the second quarter of 2007, we recognized appreciation of $493 million for our investment in American Capital,
LLC, the value of which primarily consisted of the appreciation associated with ECFS, which was for the first time accounted for as a portfolio company at fair value in connection with its deconsolidation. This appreciation of ECFS occurred over the
period since its inception in the fourth quarter of 2005.
We
also have wholly-owned affiliated statutory trusts that were established to facilitate secured borrowing arrangements whereby assets were transferred to the affiliated statutory trusts and notes were sold by the trust. These transfers of assets to
the trusts are treated as secured borrowing arrangements in accordance with Financial Accounting Standards Board (“FASB”) Statement No. 140,
Accounting for Transfers and Servicing of Financial Assets and Extinguishment of
Liabilities
(“SFAS No. 140”), and our interim consolidated financial statements include the accounts of our affiliated statutory trusts established for secured financing arrangements. We also have established trusts to fund deferred
compensation plans for employees. Our interim consolidated financial statements include the accounts of these trusts. All intercompany accounts have been eliminated in consolidation.
Note 4. Recent Accounting Pronouncements
In June 2007, the FASB ratified EITF Issue No. 06-11,
“Accounting for Income Tax Benefits of Dividends on
Share-Based Payment Awards”
(“EITF 06-11”), which provides that an entity should recognize a realized tax benefit associated with dividends or dividend equivalents that are charged to retained earnings and paid to employees for
equity-classified non-vested equity shares, non-vested equity share units and outstanding share options as an increase to additional paid-in-capital (APIC). The amount recognized in APIC should be included
42
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
in the APIC pool of excess tax benefits. When an entity’s estimate of forfeitures increases or actual forfeitures exceed its estimates, the amount of
tax benefits previously recognized in APIC should be reclassified to the income statement; however, the amount reclassified is limited to the entity’s pool of excess tax benefits. EITF 06-11 is effective prospectively for dividends
declared in fiscal years beginning after December 15, 2007 and interim periods within those fiscal years with early application permitted for dividends declared in periods for which financial statements have not yet been issued. We did not
early adopt EITF 06-11. Management has not yet assessed the impact on our financial statements of adopting EITF 06-11.
In February 2007, the FASB issued Statement No. 159
, The Fair Value Option for Financial Assets and Financial Liabilities—Including an
amendment of FASB Statement No. 115
(“SFAS No. 159”), which permits entities to choose to measure many financial instruments and certain other items at fair value. The objective of SFAS No. 159 is to improve financial
reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS No. 159 applies
under other accounting pronouncements that require or permit fair value measurements and does not require any new fair value measurements. The fair value option established by this statement permits all entities to choose to measure eligible items
at fair value at specified election dates. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. Early adoption is permitted as of the beginning of a fiscal year that begins on
or before November 15, 2007, provided the entity also elects to apply the provisions of FASB Statement No. 157,
Fair Value Measurements
. We did not early adopt SFAS No. 159. We do not anticipate electing the fair value option
for eligible assets and liabilities not currently required to be measured at fair value at the effective date of the Statement.
In September 2006, the FASB issued Statement No. 157,
Fair Value Measurements
(“SFAS No. 157”). SFAS No. 157 provides
enhanced guidance for using fair value to measure assets and liabilities. SFAS No. 157 also provides guidance regarding a fair value hierarchy that prioritizes information used to measure fair value and the effect of fair value measurements on
earnings. SFAS No. 157 applies whenever other standards require (or permit) assets or liabilities to be measured at fair value but does not expand the use of fair value in any new circumstances. SFAS No. 157 is effective for fiscal years
beginning after November 15, 2007, and interim periods within those fiscal years, with early adoption permitted. We will adopt SFAS No. 157 in the first quarter of 2008. SFAS No. 157 defines fair value in terms of the price that would
be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (the “exit price”). Prior to SFAS No. 157, fair value was defined as the amount at which an
investment could be exchanged in a current transaction between willing parties, other than in a forced liquidation. Our current valuation practice for investments recently originated or acquired is to consider our initial cost basis or total
purchase price (the “entry price”) in determining fair value. However, under SFAS 157 we may no longer be permitted to consider our entry price in determining fair value of recently originated or acquired investments. Management is
continuing to assess the impact on our financial statements of adopting SFAS No. 157. Adoption of this change in valuation guidance could have a material effect on our consolidated financial statements. However, the actual impact on our
consolidated financial statements in the period of adoption and subsequent to the period of adoption cannot be determined at this time as it will be influenced by the estimates of fair value for that period and the number and amount of investments
we originate, acquire or exit. The FASB has formed a resource group (Valuation Resource Group (“VRG”)) to address implementation issues surrounding fair value measurements used for financial reporting purposes under SFAS No. 157. Based on
the VRG’s recommendations, the FASB may issue additional or more specific guidance that may provide clarification to the current interpretations of the valuation guidance provided in SFAS No. 157.
43
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
We adopted FASB Interpretation No. 48,
Accounting for Uncertainty in Income Taxes—an
interpretation of FASB Statement No. 109
(“FIN 48”), on January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB
Statement No. 109,
Accounting for Income Taxes
and prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This
interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. In May 2007, the FASB issued Staff Position, FIN 48-1
,
Definition of Settlement in
FASB Interpretation No. 48
(“FSP FIN 48-1”), which provides guidance on how an enterprise should determine whether a tax position is effectively settled for the purpose of recognizing previously unrecognized tax benefits. FSP FIN
48-1 is effective with the initial adoption of FIN 48. The adoption of FIN 48 and FSP FIN 48-1 did not have a material impact on our consolidated financial statements.
Note 5. Investments
Investments are carried at fair value, as determined in good faith by our Board of Directors. Unrestricted securities for which we do not have a
controlling interest that are publicly traded are valued at the closing price on the valuation date. For securities of companies that are publicly traded for which we have a controlling interest, the value is based on the closing price on the
valuation date plus a control premium. We have a controlling interest in ECAS, a publicly traded investment company (See Note 12), which values its investments at fair value and therefore its net asset value reflects the fair value of its
investments. As of September 30, 2007, the stock of ECAS was trading at below its net asset value per share of €9.71 per share. The purchaser of the controlling interest has the ability to realize the net asset value and take advantage of
synergies and other benefits that flow from control over ECAS, including access to its related portfolio companies, were significant factors in determining the control premium to apply to the closing price of ECAS in determining the fair value of
ECAS at September 30, 2007, on a control basis.
For securities
of companies that are not publicly traded, or for which there are various degrees of trading restrictions, we prepare an analysis consisting of traditional valuation methodologies to estimate the enterprise value of the portfolio company, including
any investment company that is a portfolio company, issuing the securities. The methodologies consist of valuation estimates based on: valuations of comparable public companies, recent sales of comparable companies, discounting the forecasted cash
flows of the portfolio company, the liquidation or collateral value of the portfolio company’s assets, third party valuations of the portfolio company, third party sale offers, potential strategic buyer analysis and the value of recent
investments in the equity securities of the portfolio company. For recently originated or acquired investments, we generally consider our entry price (which is the initial cost of the investment including transaction costs) in determining fair
value. We weight some or all of the above valuation methods in order to conclude on our estimate of value. In valuing convertible debt, equity or other securities, we value our equity investment based on our pro rata share of the residual equity
value available after deducting all outstanding debt from the estimated enterprise value. We value non-convertible debt securities at cost plus amortized original issue discount (“OID”) to the extent that the estimated enterprise value of
the portfolio company exceeds the outstanding debt of the portfolio company. If the estimated enterprise value is less than the outstanding debt of the company, we reduce the value of our debt investment beginning with the junior most debt such that
the enterprise value less the value of the outstanding debt is zero. If there is sufficient enterprise value to cover the face amount of a debt security that has been discounted due to detachable equity warrants received with that security, that
detachable equity warrant will have a minimum value so that the sum of the detachable equity warrant and the discounted debt security equal the face value of the debt security.
On October 5, 2007, we entered into a Purchase and Sale Agreement to sell approximately 17% of our equity investments
in 80 portfolio companies (See Note 14). The sale of the equity securities closed in the fourth
44
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
quarter of 2007 and the agreed-upon sales price was based on 97% of the fair value of the equity securities as of June 30, 2007, and, for those
investments originated subsequent to June 30, 2007, at 97% of their cost basis. In determining the fair value as of September 30, 2007 of the securities sold as part of this transaction, we valued the securities sold in the fourth quarter
of 2007 based on the sales price. In determining the fair value of the remaining 83% of the equity securities retained by us, we valued these investments based on our standard valuation methodologies as outlined above.
We value our investments in CDOs and CMBS by discounting the forecasted cash
flows of the investment. Cash flow forecasts are subject to assumptions regarding the investments’ underlying collateral. Cash flow forecasts are discounted using market yields which are derived through analysis of multiple sources of
information including, but not limited to, counterparty quotes, recent investments and securities with similar structure and risk characteristics.
Due to the uncertainty inherent in the valuation process, such estimates of fair value may differ significantly from the values that would have been used
had a ready market for the securities existed, and the differences could be material. Additionally, changes in the market environment and other events that may occur over the life of the investments may cause the gains or losses ultimately realized
on these investments to be different than the valuations currently assigned. As of September 30, 2007 and December 31, 2006, the fair value of 100% of our investments were estimated and determined in good faith by our Board of Directors
because the investments were not publicly traded on an active market, the investments had various degrees of trading restrictions, or the investments were controlling interests in publicly traded securities.
As required by the 1940 Act, we classify our investments by level of control.
As defined in the 1940 Act, “Control Investments” are investments in those companies that we are deemed to “Control”. “Affiliate Investments” are investments in those companies that are “Affiliated Companies”
of us, as defined in the 1940 Act, other than Control Investments. “Non-Control/Non-Affiliate Investments” are those that are neither Control Investments nor Affiliate Investments. Generally, under the 1940 Act, we are deemed to control a
company in which we have invested if we own more than 25% of the voting securities of such company or have greater than 50% representation on its board of directors. We are deemed to be an affiliate of a company in which we have invested if we own
between 5% and 25% of the voting securities of such company.
Investments consist of securities issued by publicly- and privately-held companies consisting of senior debt, subordinated debt, equity warrants, preferred and common equity securities and derivative agreements. Our debt securities are
payable in installments with final maturities ranging generally from 5 to 10 years and many are collateralized by assets of the borrower. We also make investments in securities that do not produce current income. These investments typically consist
of equity warrants, common equity and preferred equity and are identified in the accompanying consolidated schedule of investments. We also invest in non-investment grade CMBS and CDO securities.
As of September 30, 2007 and December 31, 2006, loans on
non-accrual status were $309 million and $183 million, respectively, calculated as the cost plus unamortized OID. As of September 30, 2007, there were no loans greater than three months past due. As of December 31, 2006, loans,
excluding loans on non-accrual status, with a principal balance of $12 million, were greater than three months past due.
Interest income is recorded on an accrual basis to the extent that such amounts are expected to be collected. OID is accreted into interest income using
the effective interest method. OID initially represents the value of
45
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
detachable equity warrants obtained in conjunction with the acquisition of debt securities and loan origination fees that represent yield enhancement.
Dividend income is recognized on the ex-dividend date for common equity securities and on an accrual basis for preferred equity securities to the extent that such amounts are expected to be collected or realized. In determining the amount of
dividend income to recognize, if any, from cash distributions on common equity securities, we will assess many factors including a portfolio company’s cumulative undistributed income and operating cash flow. Cash distributions from common
equity securities received in excess of such undistributed amounts are recorded first as a reduction of our investment and then as a realized gain on investment. We stop accruing interest or dividends on our investments when it is determined that
the interest or dividend is not collectible. We assess the collectibility of the interest and dividends based on many factors including the portfolio company’s ability to service our loan based on current and projected cash flows as well as the
current valuation of the portfolio company’s enterprise. For investments with payment-in-kind (“PIK”) interest and cumulative dividends, we base income and dividend accruals on the valuation of the PIK notes or securities received
from the borrower. If the portfolio company valuation indicates a value of the PIK notes or securities that is not sufficient to cover the contractual interest or dividend, we will not accrue interest or dividend income on the notes or securities.
For CMBS and CDO securities, we recognize income using the effective interest method, using the anticipated yield over the projected life of the investment.
The composition summaries of our investment portfolio as of September 30, 2007 and December 31, 2006 at cost and fair value as a percentage of
total investments, excluding derivative agreements, are shown in the following table:
|
|
|
|
|
|
|
|
|
|
|
September 30, 2007
|
|
|
December 31, 2006
|
|
|
COST
|
|
|
|
|
|
|
|
Senior debt
|
|
30.4
|
%
|
|
32.8
|
%
|
|
Subordinated debt
|
|
24.8
|
%
|
|
28.2
|
%
|
|
Preferred equity
|
|
19.7
|
%
|
|
15.1
|
%
|
|
Common equity
|
|
15.6
|
%
|
|
12.5
|
%
|
|
CMBS securities
|
|
4.7
|
%
|
|
6.3
|
%
|
|
CDO securities
|
|
2.7
|
%
|
|
2.2
|
%
|
|
Equity warrants
|
|
2.1
|
%
|
|
2.9
|
%
|
|
|
|
|
|
|
|
September 30, 2007
|
|
|
December 31, 2006
|
|
|
FAIR VALUE
|
|
|
|
|
|
|
|
Senior debt
|
|
28.1
|
%
|
|
31.1
|
%
|
|
Common equity
|
|
22.3
|
%
|
|
15.1
|
%
|
|
Subordinated debt
|
|
22.0
|
%
|
|
26.3
|
%
|
|
Preferred equity
|
|
18.1
|
%
|
|
15.2
|
%
|
|
CMBS securities
|
|
4.0
|
%
|
|
6.1
|
%
|
|
Equity warrants
|
|
3.0
|
%
|
|
4.0
|
%
|
|
CDO securities
|
|
2.5
|
%
|
|
2.2
|
%
|
46
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
We use the Global Industry Classification Standards for classifying the industry groupings of our
portfolio companies. The following table shows the portfolio composition by industry grouping at cost and at fair value as a percentage of total investments, excluding derivative agreements. Our investments in investment funds and CDO securities are
classified in the Diversified Financial Services industry category.
|
|
|
|
|
|
|
|
|
|
|
September 30, 2007
|
|
|
December 31, 2006
|
|
|
COST
|
|
|
|
|
|
|
|
Diversified Financial Services
|
|
14.2
|
%
|
|
13.2
|
%
|
|
Commercial Services & Supplies
|
|
10.1
|
%
|
|
14.3
|
%
|
|
Real Estate
|
|
6.8
|
%
|
|
6.6
|
%
|
|
Software
|
|
5.4
|
%
|
|
1.6
|
%
|
|
Internet & Catalog Retail
|
|
4.5
|
%
|
|
2.8
|
%
|
|
Food Products
|
|
4.5
|
%
|
|
5.8
|
%
|
|
Household Durables
|
|
4.4
|
%
|
|
3.7
|
%
|
|
Diversified Consumer Services
|
|
4.2
|
%
|
|
4.0
|
%
|
|
Biotechnology
|
|
3.9
|
%
|
|
0.0
|
%
|
|
Health Care Providers & Services
|
|
3.6
|
%
|
|
6.1
|
%
|
|
Health Care Equipment & Supplies
|
|
3.4
|
%
|
|
4.7
|
%
|
|
Hotels, Restaurants & Leisure
|
|
3.2
|
%
|
|
0.0
|
%
|
|
Construction & Engineering
|
|
3.1
|
%
|
|
3.9
|
%
|
|
Electrical Equipment
|
|
3.1
|
%
|
|
4.2
|
%
|
|
Containers & Packaging
|
|
2.4
|
%
|
|
3.8
|
%
|
|
Auto Components
|
|
2.1
|
%
|
|
3.8
|
%
|
|
Building Products
|
|
1.9
|
%
|
|
2.8
|
%
|
|
Internet Software & Services
|
|
1.8
|
%
|
|
0.1
|
%
|
|
IT Services
|
|
1.6
|
%
|
|
1.7
|
%
|
|
Oil, Gas & Consumable Fuels
|
|
1.6
|
%
|
|
1.5
|
%
|
|
Computers & Peripherals
|
|
1.5
|
%
|
|
1.2
|
%
|
|
Leisure Equipment & Products
|
|
1.3
|
%
|
|
3.1
|
%
|
|
Electronic Equipment & Instruments
|
|
1.3
|
%
|
|
0.8
|
%
|
|
Energy Equipment & Services
|
|
1.3
|
%
|
|
1.5
|
%
|
|
Pharmaceuticals
|
|
1.1
|
%
|
|
1.5
|
%
|
|
Personal Products
|
|
1.0
|
%
|
|
1.2
|
%
|
|
Other
|
|
6.7
|
%
|
|
6.1
|
%
|
47
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
|
|
|
|
|
|
|
|
|
|
|
September 30, 2007
|
|
|
December 31, 2006
|
|
|
FAIR VALUE
|
|
|
|
|
|
|
|
Diversified Financial Services
|
|
14.4
|
%
|
|
14.3
|
%
|
|
Commercial Services & Supplies
|
|
9.8
|
%
|
|
14.6
|
%
|
|
Real Estate
|
|
5.9
|
%
|
|
6.4
|
%
|
|
Capital Markets
|
|
5.1
|
%
|
|
0.0
|
%
|
|
Software
|
|
5.1
|
%
|
|
1.6
|
%
|
|
Diversified Consumer Services
|
|
4.4
|
%
|
|
4.1
|
%
|
|
Internet & Catalog Retail
|
|
4.2
|
%
|
|
2.7
|
%
|
|
Household Durables
|
|
4.0
|
%
|
|
3.0
|
%
|
|
Electrical Equipment
|
|
3.8
|
%
|
|
5.0
|
%
|
|
Food Products
|
|
3.7
|
%
|
|
5.2
|
%
|
|
Health Care Providers & Services
|
|
3.7
|
%
|
|
6.0
|
%
|
|
Biotechnology
|
|
3.7
|
%
|
|
0.0
|
%
|
|
Health Care Equipment & Supplies
|
|
3.5
|
%
|
|
4.9
|
%
|
|
Hotels, Restaurants & Leisure
|
|
3.0
|
%
|
|
0.0
|
%
|
|
Construction & Engineering
|
|
2.6
|
%
|
|
3.8
|
%
|
|
Containers & Packaging
|
|
2.5
|
%
|
|
4.0
|
%
|
|
Energy Equipment & Services
|
|
1.9
|
%
|
|
1.8
|
%
|
|
Auto Components
|
|
1.9
|
%
|
|
3.6
|
%
|
|
Building Products
|
|
1.9
|
%
|
|
2.7
|
%
|
|
Internet Software & Services
|
|
1.7
|
%
|
|
0.2
|
%
|
|
Oil, Gas & Consumable Fuels
|
|
1.6
|
%
|
|
2.7
|
%
|
|
Computers & Peripherals
|
|
1.5
|
%
|
|
1.4
|
%
|
|
Aerospace & Defense
|
|
1.3
|
%
|
|
0.4
|
%
|
|
IT Services
|
|
1.3
|
%
|
|
1.7
|
%
|
|
Electronic Equipment & Instruments
|
|
1.2
|
%
|
|
0.8
|
%
|
|
Pharmaceuticals
|
|
1.1
|
%
|
|
1.3
|
%
|
|
Other
|
|
5.2
|
%
|
|
7.8
|
%
|
48
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
The following table shows the portfolio composition by geographic location at cost and at fair value
as a percentage of total investments, excluding CDO securities, CMBS and derivative agreements. The geographic composition is determined by the location of the corporate headquarters of the portfolio company.
|
|
|
|
|
|
|
|
|
|
|
September 30, 2007
|
|
|
December 31, 2006
|
|
|
COST
|
|
|
|
|
|
|
|
Mid-Atlantic
|
|
21.1
|
%
|
|
17.3
|
%
|
|
Southwest
|
|
21.9
|
%
|
|
25.3
|
%
|
|
Northeast
|
|
13.4
|
%
|
|
10.9
|
%
|
|
Southeast
|
|
14.8
|
%
|
|
18.1
|
%
|
|
International
|
|
13.1
|
%
|
|
11.0
|
%
|
|
South-Central
|
|
9.2
|
%
|
|
9.6
|
%
|
|
North-Central
|
|
5.8
|
%
|
|
7.1
|
%
|
|
Northwest
|
|
0.7
|
%
|
|
0.7
|
%
|
|
|
|
|
|
|
|
September 30, 2007
|
|
|
December 31, 2006
|
|
|
FAIR VALUE
|
|
|
|
|
|
|
|
Mid-Atlantic
|
|
25.4
|
%
|
|
17.8
|
%
|
|
Southwest
|
|
20.2
|
%
|
|
24.2
|
%
|
|
Southeast
|
|
13.7
|
%
|
|
17.4
|
%
|
|
International
|
|
13.0
|
%
|
|
11.7
|
%
|
|
Northeast
|
|
12.3
|
%
|
|
10.2
|
%
|
|
South-Central
|
|
9.3
|
%
|
|
10.7
|
%
|
|
North-Central
|
|
5.5
|
%
|
|
7.4
|
%
|
|
Northwest
|
|
0.6
|
%
|
|
0.6
|
%
|
Note 6. Borrowings
Our debt obligations consisted of the following as of September 30,
2007 and December 31, 2006:
|
|
|
|
|
|
|
|
|
|
|
September 30, 2007
|
|
December 31, 2006
|
|
Secured revolving credit facility, $1,250 million commitment
|
|
$
|
728
|
|
$
|
669
|
|
Unsecured revolving credit facility, $1,565 million commitment
|
|
|
433
|
|
|
893
|
|
Unsecured debt due August 2010
|
|
|
126
|
|
|
126
|
|
Unsecured debt due February 2011
|
|
|
26
|
|
|
24
|
|
Unsecured debt due through September 2011
|
|
|
167
|
|
|
167
|
|
Unsecured debt due October 2012
|
|
|
547
|
|
|
—
|
|
Unsecured debt due October 2020
|
|
|
75
|
|
|
75
|
|
TRS Facility
|
|
|
—
|
|
|
296
|
|
ACAS Business Loan Trust 2004-1 asset securitization
|
|
|
349
|
|
|
410
|
|
ACAS Business Loan Trust 2005-1 asset securitization
|
|
|
830
|
|
|
830
|
|
ACAS Business Loan Trust 2006-1 asset securitization
|
|
|
436
|
|
|
436
|
|
ACAS Business Loan Trust 2007-1 asset securitization
|
|
|
492
|
|
|
—
|
|
ACAS Business Loan Trust 2007-2 asset securitization
|
|
|
338
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
4,547
|
|
$
|
3,926
|
|
|
|
|
|
|
|
|
49
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
The daily weighted average debt balance for the three months ended September 30, 2007 and 2006
was $5,016 million and $3,413 million, respectively. The daily weighted average debt balance for the nine months ended September 30, 2007 and 2006 was $4,542 and $2,846, respectively. The weighted average interest rate on all of our borrowings,
including amortization of deferred financing costs, was 6.3% and 6.5% for the three months ended September 30, 2007 and 2006, respectively. The weighted average interest rate on all of our borrowings, including amortization of deferred
financing costs, for the nine months ended September 30, 2007 and 2006 was 6.3% and 6.2%, respectively. We are currently in compliance with all of our debt covenants.
Secured Revolving Credit Facility
In October 2007, we amended the secured revolving credit facility to extend the facility’s termination date to October 2008 and increase the
lenders’ commitment thereunder to $1,300 million. As amended, our ability to make draws under the facility expires one business day before the termination date. If the facility is not extended before the termination date, any principal amounts
then outstanding will be amortized over a 24-month period from the termination date to October 2010.
Public Debt Offering
In July 2007, we completed a public offering of $550 million of senior unsecured notes for net proceeds of $547 million, net of underwriters’
discounts. The notes bear interest at a fixed rate of 6.85% and mature in August 2012. Interest payments are due semi-annually on February 1 and August 1 and all principal is due on maturity. The notes were rated Baa2, BBB and BBB by
Moody’s Investor Services, Standard & Poor’s Ratings Services and Fitch Ratings, respectively. If the ratings of the notes from at least two of the rating agencies are decreased, the interest rate on the notes would increase by 25
basis points for each rating decrease up to a maximum of 100 basis points. If at least two of the rating agencies then subsequently increase the ratings of the notes, the interest rate on the notes would decrease by 25 basis points for each rating
increase not to fall below the initial interest rate of 6.85%. If at least two rating agencies cease to provide ratings for the notes, any increase or decrease necessitated by a reduction or increase in the rating by the remaining rating agency
shall be twice the percentages set forth above. The indenture contains various covenants, including a covenant that we will maintain an asset coverage, as defined in the 1940 Act, of at least 200%. The notes may be redeemed by us in whole or in
part, together with an interest premium, as stipulated in the note agreement.
Unsecured Revolving Facility
In May 2007, we replaced our $900 million unsecured revolving credit facility with a new $1,565 million unsecured revolving credit facility with a syndicate of lenders. The facility may be expanded through new or
additional commitments up to $1,815 million in accordance with the terms and conditions set forth in the related agreement. The ability to make draws under the revolving facility expires in May 2012. Interest on borrowings under the facility is
charged at either (i) LIBOR plus the applicable percentage at such time, currently 90 basis points, or (ii) the greater of the prime rate in effect on such day and the federal funds effective rate in effect on such day plus 50 basis
points. We are also charged an unused commitment fee of 0.125% per annum. The agreement contains various covenants, including limits on annual corporate capital expenditures, maintaining an unsecured debt rating equal or greater than BB, a minimum
net worth and asset coverage ratios.
Total Return Swap
Facility
In March 2007, our total return swap
facility (the “TRS Facility”) with Wachovia Bank, N.A. was temporarily increased from $350 million to $500 million through May 30, 2007. On May 30, 2007, the temporary increase to $500 million was extended to the earlier of the
closing of the ACAS CRE CDO 2007-1, Ltd. transaction or August 31, 2007. In July 2007, as a result of the closing of the ACAS CRE CDO 2007-1, Ltd. transaction, the TRS Facility was reduced to $300 million.
50
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
Securitizations
In August 2007, we completed a $500 million asset securitization. In connection with the transaction, ACAS Business Loan
Trust 2007-2 (“BLT 2007-2”), an indirect consolidated subsidiary, issued $300.5 million Class A notes, $37.5 million Class B notes and $162 million of Class C through Class F notes (collectively, the “2007-2 Notes”). The
Class A notes and Class B notes were sold to institutional investors and all of the Class C through Class F notes were retained by us. The 2007-2 Notes are secured by loans originated or acquired by us and sold to our wholly-owned consolidated
subsidiary, BLT 2007-2. Through February 2008, BLT 2007-2 may also generally use principal collections from the underlying loan pool to purchase additional loans to secure the 2007-2 Notes. After such time, principal payments on the 2007-2
Notes will generally be applied pro rata to each class of 2007-2 Notes outstanding until the aggregate outstanding principal balance of the loan pool is less than $250 million or the occurrence of certain other events. Payments will then be applied
sequentially to the Class A notes, the Class B notes, the Class C notes, the Class D notes, the Class E notes and the Class F notes. Subject to continuing compliance with certain conditions, we will remain as servicer of the loans. The
Class A notes have an interest rate of three-month LIBOR plus 40 basis points, the Class B notes have an interest rate of three-month LIBOR plus 100 basis points, the Class C notes have an interest rate of three-month LIBOR plus 125 basis
points, the Class D notes have an interest rate of three-month LIBOR plus 300 basis points and the Class E and Class F notes retained by us do not have an interest rate. The loans are secured by loans from our portfolio companies with a principal
balance of approximately $500 million. The 2007-2 Notes contain customary default provisions and mature in November 2019 unless redeemed or repaid prior to such date.
In April 2007, we completed a $600 million asset securitization. In connection with the transaction, ACAS Business Loan
Trust 2007-1 (“BLT 2007-1”), an indirect consolidated subsidiary, issued $351 million Class A notes, $45 million Class B notes, $81 million Class C notes, $45 million Class D notes and $78 million Class E notes (collectively, the
“2007-1 Notes”). The Class A notes, Class B notes, Class C notes and $15 million of the Class D notes were sold to institutional investors and $30 million of the Class D notes and all the Class E notes were retained by us. The 2007-1
Notes are secured by loans originated or acquired by us and sold to our wholly-owned consolidated subsidiary, BLT 2007-1. Through November 2007, BLT 2007-1 may also generally use principal collections from the underlying loan pool to purchase
additional loans to secure the 2007-1 Notes. After such time, principal payments on the 2007-1 Notes will generally be applied pro rata to each class of 2007-1 Notes outstanding until the aggregate outstanding principal balance of the loan pool is
less than $300 million or the occurrence of certain other events. Payments will then be applied sequentially to the Class A notes, the Class B notes, the Class C notes, the Class D notes and the Class E notes. Subject to continuing compliance
with certain conditions, we will remain as servicer of the loans. The Class A notes have an interest rate of three-month LIBOR plus 14 basis points, the Class B notes have an interest rate of three-month LIBOR plus 31 basis points, the Class C
notes have an interest rate of three-month LIBOR plus 85 basis points, the Class D notes have an interest rate of three-month LIBOR plus 185 basis points and the Class E notes retained by us do not have an interest rate. The loans are secured by
loans and assets from our portfolio companies with a principal balance of approximately $600 million. The 2007-1 Notes contain customary default provisions and mature in August 2019 unless redeemed or repaid prior to such date.
51
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
Note 7. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share for the three and nine months ended
September 30, 2007 and 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
|
2007
|
|
2006
|
|
2007
|
|
2006
|
|
Numerator for basic and diluted net operating income per share
|
|
$
|
153
|
|
$
|
110
|
|
$
|
420
|
|
$
|
312
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator for basic and diluted net earnings per share
|
|
$
|
21
|
|
$
|
132
|
|
$
|
943
|
|
$
|
584
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator for basic weighted average shares
|
|
|
186.8
|
|
|
141.6
|
|
|
168.3
|
|
|
131.7
|
|
Employee stock options and awards
|
|
|
2.3
|
|
|
1.5
|
|
|
2.9
|
|
|
1.0
|
|
Shares issuable under forward sale agreements
|
|
|
0.2
|
|
|
0.2
|
|
|
0.2
|
|
|
0.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator for diluted weighted average shares
|
|
|
189.3
|
|
|
143.3
|
|
|
171.4
|
|
|
132.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic net operating income per common share
|
|
$
|
0.82
|
|
$
|
0.78
|
|
$
|
2.50
|
|
$
|
2.37
|
|
Diluted net operating income per common share
|
|
$
|
0.81
|
|
$
|
0.77
|
|
$
|
2.45
|
|
$
|
2.35
|
|
Basic net earnings per common share
|
|
$
|
0.11
|
|
$
|
0.93
|
|
$
|
5.60
|
|
$
|
4.44
|
|
Diluted net earnings per common share
|
|
$
|
0.11
|
|
$
|
0.92
|
|
$
|
5.50
|
|
$
|
4.39
|
Note 8. Segment Data
Reportable segments are identified by management based on
our organizational structure and the business activities from which we earn income. We have determined that we have two primary lines of business: 1) Investing and 2) Asset Management and Advisory.
We derive the majority of our operating income and net operating income from
our Investing segment, which primarily invests in senior and subordinated debt and equity of private and public companies with attractive current yields and/or potential for equity appreciation and realized gains.
Our Asset Management and Advisory segment provides management services to
both our portfolio company investments and third party alternative asset funds. Our Asset Management and Advisory segment includes financial advisory services provided to our portfolio companies and includes both fees for portfolio company
management for providing advice and analysis to our middle market portfolio companies, which can be recurring in nature, and transaction structuring and financing fees for structuring, financing and executing transactions, which may not be recurring
in nature. These services are primarily provided by our consolidated operating subsidiary, ACFS. Our Asset Management and Advisory Segment also includes our third party alternative asset fund management business, which may be conducted through
consolidated operating subsidiaries or wholly-owned portfolio companies. As of September 30, 2007, all of our third party alternative asset fund management services in our Asset Management and Advisory segment are conducted through our
wholly-owned portfolio company, American Capital, LLC. Prior to the second quarter of 2007, our third party alternative asset fund management services were conducted through both ECFS, which was deconsolidated in the second quarter of 2007 (See Note
3), and wholly-owned portfolio companies. To the extent American Capital, LLC declares regular quarterly dividends of its quarterly net operating income to us, such dividends would be included in our Asset Management and Advisory segment as dividend
income. The results for our Asset Management and Advisory segment also include the realized gain (loss) and unrealized appreciation (depreciation) of such wholly-owned portfolio companies.
52
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
The following table presents segment data for the three months ended September 30, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing
|
|
|
Asset
Management
and Advisory
|
|
|
Consolidated
|
|
|
Interest and dividend income
|
|
$
|
259
|
|
|
$
|
9
|
|
|
$
|
268
|
|
|
Fee and other income
|
|
|
7
|
|
|
|
35
|
|
|
|
42
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
|
266
|
|
|
|
44
|
|
|
|
310
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
|
|
|
79
|
|
|
|
—
|
|
|
|
79
|
|
|
Salaries, benefits and stock-based compensation
|
|
|
22
|
|
|
|
37
|
|
|
|
59
|
|
|
General and administrative
|
|
|
12
|
|
|
|
13
|
|
|
|
25
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses
|
|
|
113
|
|
|
|
50
|
|
|
|
163
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) before income taxes
|
|
|
153
|
|
|
|
(6
|
)
|
|
|
147
|
|
|
Benefit for income taxes
|
|
|
—
|
|
|
|
6
|
|
|
|
6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net operating income
|
|
|
153
|
|
|
|
—
|
|
|
|
153
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized gain on investments
|
|
|
71
|
|
|
|
—
|
|
|
|
71
|
|
|
Net unrealized depreciation of investments
|
|
|
(203
|
)
|
|
|
—
|
|
|
|
(203
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in net assets resulting from operations
|
|
$
|
21
|
|
|
$
|
—
|
|
|
$
|
21
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table
presents segment data for the nine months ended September 30, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing
|
|
|
Asset
Management
and Advisory
|
|
Consolidated
|
|
|
Interest and dividend income
|
|
$
|
684
|
|
|
$
|
38
|
|
$
|
722
|
|
|
Fee and other income
|
|
|
13
|
|
|
|
151
|
|
|
164
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
|
697
|
|
|
|
189
|
|
|
886
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
|
|
|
214
|
|
|
|
—
|
|
|
214
|
|
|
Salaries, benefits and stock-based compensation
|
|
|
57
|
|
|
|
120
|
|
|
177
|
|
|
General and administrative
|
|
|
33
|
|
|
|
39
|
|
|
72
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses
|
|
|
304
|
|
|
|
159
|
|
|
463
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income before income taxes
|
|
|
393
|
|
|
|
30
|
|
|
423
|
|
|
Benefit (provision) for income taxes
|
|
|
(6
|
)
|
|
|
3
|
|
|
(3
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net operating income
|
|
|
387
|
|
|
|
33
|
|
|
420
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized gain on investments
|
|
|
170
|
|
|
|
—
|
|
|
170
|
|
|
Net unrealized (depreciation) appreciation of investments
|
|
|
(140
|
)
|
|
|
493
|
|
|
353
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in net assets resulting from operations
|
|
$
|
417
|
|
|
$
|
526
|
|
$
|
943
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
53
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
The following table presents segment data for the three months ended September 30, 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing
|
|
|
Asset
Management
and Advisory
|
|
|
Consolidated
|
|
|
Interest and dividend income
|
|
$
|
180
|
|
|
$
|
—
|
|
|
$
|
180
|
|
|
Fee and other income
|
|
|
5
|
|
|
|
46
|
|
|
|
51
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
|
185
|
|
|
|
46
|
|
|
|
231
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
|
|
|
55
|
|
|
|
—
|
|
|
|
55
|
|
|
Salaries, benefits and stock-based compensation
|
|
|
13
|
|
|
|
28
|
|
|
|
41
|
|
|
General and administrative
|
|
|
8
|
|
|
|
11
|
|
|
|
19
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses
|
|
|
76
|
|
|
|
39
|
|
|
|
115
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income before income taxes
|
|
|
109
|
|
|
|
7
|
|
|
|
116
|
|
|
Provision for income taxes
|
|
|
(3
|
)
|
|
|
(3
|
)
|
|
|
(6
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net operating income
|
|
|
106
|
|
|
|
4
|
|
|
|
110
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized gain on investments
|
|
|
52
|
|
|
|
—
|
|
|
|
52
|
|
|
Net unrealized depreciation of investments
|
|
|
(30
|
)
|
|
|
—
|
|
|
|
(30
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in net assets resulting from operations
|
|
$
|
128
|
|
|
$
|
4
|
|
|
$
|
132
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table
presents segment data for the nine months ended September 30, 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing
|
|
|
Asset
Management
and Advisory
|
|
|
Consolidated
|
|
|
Interest and dividend income
|
|
$
|
467
|
|
|
$
|
—
|
|
|
$
|
467
|
|
|
Fee and other income
|
|
|
14
|
|
|
|
135
|
|
|
|
149
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
|
481
|
|
|
|
135
|
|
|
|
616
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
|
|
|
132
|
|
|
|
—
|
|
|
|
132
|
|
|
Salaries, benefits and stock-based compensation
|
|
|
32
|
|
|
|
71
|
|
|
|
103
|
|
|
General and administrative
|
|
|
21
|
|
|
|
30
|
|
|
|
51
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses
|
|
|
185
|
|
|
|
101
|
|
|
|
286
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income before income taxes
|
|
|
296
|
|
|
|
34
|
|
|
|
330
|
|
|
Provision for income taxes
|
|
|
(3
|
)
|
|
|
(15
|
)
|
|
|
(18
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net operating income
|
|
|
293
|
|
|
|
19
|
|
|
|
312
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized gain on investments
|
|
|
118
|
|
|
|
—
|
|
|
|
118
|
|
|
Net unrealized appreciation of investments
|
|
|
153
|
|
|
|
—
|
|
|
|
153
|
|
|
Cumulative effect of accounting change, net of tax
|
|
|
—
|
|
|
|
1
|
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in net assets resulting from operations
|
|
$
|
564
|
|
|
$
|
20
|
|
|
$
|
584
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
54
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
Note 9. Commitments
As of September 30, 2007, we had commitments under loan and financing agreements to fund up to $600 million to 59 portfolio companies. These
commitments are primarily composed of working capital credit facilities, acquisition credit facilities and subscription agreements. The commitments are generally subject to the borrowers meeting certain criteria. The terms of the borrowings and
financings subject to commitment are comparable to the terms of other debt and equity securities in our portfolio.
Note 10. Income Taxes
We adopted FIN 48,
Accounting for Uncertainty in Income Taxes
,
an interpretation of SFAS No. 109,
on January 1, 2007. FIN 48
clarifies the accounting for income taxes by prescribing the minimum recognition threshold an uncertain tax position is required to meet before tax benefits associated with such uncertain tax position are recognized in the financial statements. Our
adoption of FIN 48 did not require a cumulative effect adjustment to the January 1, 2007 undistributed net realized earnings. We classify interest and penalties, if any, related to unrecognized tax benefits as a component of provision for
income taxes.
Based on our analysis of our tax position, we
concluded that we did not have any uncertain tax positions that met the recognition or measurement criteria of FIN 48. We did not have any unrecognized tax benefits as of January 1, 2007 or September 30, 2007.
Although we file federal and state tax returns, our major tax jurisdiction is
federal for American Capital and ACFS. The 2003 through 2005 federal tax years for American Capital and ACFS remain subject to examination by the IRS.
We operate to qualify as a RIC under Subchapter M of the Code. Our tax year ends on September 30. If we continue to qualify as a RIC we will not be
subject to federal income tax on the portion of our investment company ordinary taxable income and long-term capital gains we distribute to our stockholders.
As permitted by the Code, a RIC can designate dividends paid in the subsequent tax year as dividends of current year ordinary taxable income and long-term
capital gains if those dividends are both declared by the extended due date of the RIC’s federal income tax return and paid to stockholders by the last day of the subsequent tax year. Accordingly, dividends declared by June 15, 2008, the
extended due date of our return, and paid by September 30, 2008, will be comprised of a portion of our ordinary income and all of our long-term capital gain income from the tax year ended September 30, 2007.
For the tax year ended September 30, 2007, we had net long-term capital
gains of $142 million that we will distribute to our stockholders as dividends by September 30, 2008. For the tax year ended September 30, 2006, we had net long-term capital gains of $43 million. In the fourth quarter of 2006, we elected
to retain these long-term capital gains and treat as a deemed distribution to our shareholders. In order to make the election to retain capital gains, we incurred and paid a federal tax on behalf of our shareholders of $15 million in the fourth
quarter of 2006.
We are also subject to a nondeductible
federal excise tax of 4% if we do not distribute at least 98% of our investment company ordinary taxable income in any calendar year and 98% of our taxable long-term capital gains for each one-year period ending October 31, including any
undistributed income from the prior excise tax year. For the calendar year ended December 31, 2006 and the one-year period ending October 31, 2006, we did not distribute at least 98% of our ordinary taxable income and long-term capital
gains, respectively, and paid the
55
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
4% excise tax. The undistributed ordinary taxable income and long-term capital gains from our 2006 excise tax year totaled $147 million. For our 2007 excise
tax year, we do not expect to distribute at least 98% of the total of our ordinary taxable income and long-term capital gains, including our undistributed taxable income from the 2006 excise tax year, and we would pay the 4% excise tax on such
amount. For the three and nine months ended September 30, 2007, we accrued $0 million and $6 million, respectively, of excise tax attributable to undistributed ordinary taxable income, which is included in our provision for income taxes on the
accompanying consolidated statements of operations. For the three and nine months ended September 30, 2006, we accrued $2 million and $3 million, respectively, of excise tax attributable to undistributed ordinary taxable income, which is
included in our provision for income taxes on the accompanying consolidated statements of operations. In addition, for the three months ended September 30, 2007, we accrued $4 million of excise tax attributable to undistributed long-term
capital gains, which is included in net realized gains on the accompany consolidated statements of operations.
Note 11. Shareholders’ Equity
Our common stock activity for the nine months ended September 30, 2007 and 2006 was as follows:
|
|
|
|
|
|
|
|
|
|
|
September 30, 2007
|
|
|
September 30, 2006
|
|
|
Common stock outstanding at beginning of period
|
|
147.6
|
|
|
118.9
|
|
|
Issuance of common stock
|
|
39.0
|
|
|
26.7
|
|
|
Issuance of common stock under stock option plans
|
|
0.8
|
|
|
0.6
|
|
|
Issuance of common stock under dividend reinvestment plan
|
|
0.8
|
|
|
0.7
|
|
|
Deconsolidation of stock held in deferred compensation trusts
|
|
0.7
|
|
|
—
|
|
|
Distribution of common stock held in deferred compensation trusts
|
|
0.8
|
|
|
(0.1
|
)
|
|
Purchase of common stock held in deferred compensation trusts
|
|
(1.9
|
)
|
|
(3.0
|
)
|
|
|
|
|
|
|
|
|
|
Common stock outstanding at end of period
|
|
187.8
|
|
|
143.8
|
|
|
|
|
|
|
|
|
|
56
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
Equity Offerings
For the nine months ended September 30, 2007 and 2006, we completed several public offerings of our common stock in
which shares were sold either directly by us or by forward purchasers in connection with forward sale agreements. The following table summarizes the total shares sold directly by us, including shares sold pursuant to underwriters’
over-allotment options and through forward sale agreements, and the proceeds we received, excluding issuance costs, for the public offerings of our common stock for the nine months ended September 30, 2007 and 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares Sold
|
|
Proceeds, Net of
Underwriters’ Discount
|
|
Average Price
|
|
September 2007 public offering
|
|
0.9
|
|
$
|
34
|
|
$
|
37.63
|
|
Issuances under June 2007 Forward Sale Agreements
|
|
2.9
|
|
|
126
|
|
|
43.16
|
|
June 2007 public offering
|
|
17.4
|
|
|
748
|
|
|
43.02
|
|
June 2007 direct offering
|
|
0.2
|
|
|
11
|
|
|
46.47
|
|
Issuances under March 2007 Forward Sale Agreements
|
|
6.0
|
|
|
259
|
|
|
43.17
|
|
Issuances under January 2007 Forward Sale Agreements
|
|
2.0
|
|
|
88
|
|
|
43.84
|
|
March 2007 public offering
|
|
4.4
|
|
|
187
|
|
|
43.03
|
|
January 2007 public offering
|
|
5.2
|
|
|
231
|
|
|
44.11
|
|
|
|
|
|
|
|
|
|
|
|
Total for the nine months ended September 30, 2007
|
|
39.0
|
|
$
|
1,684
|
|
$
|
43.14
|
|
|
|
|
|
|
|
|
|
|
|
July 2006 public offering
|
|
3.0
|
|
$
|
100
|
|
$
|
32.78
|
|
Issuance under April 2006 Forward Sale Agreements
|
|
4.0
|
|
|
133
|
|
|
33.38
|
|
April 2006 public offering
|
|
9.8
|
|
|
333
|
|
|
33.99
|
|
February 2006 public offering
|
|
1.0
|
|
|
36
|
|
|
36.10
|
|
Issuance under January 2006 Forward Sale Agreements
|
|
4.0
|
|
|
137
|
|
|
34.31
|
|
January 2006 public offering
|
|
0.6
|
|
|
21
|
|
|
34.84
|
|
Issuances under November 2005 Forward Sale Agreements
|
|
3.5
|
|
|
125
|
|
|
35.66
|
|
Issuances under September 2005 Forward Sale Agreements
|
|
0.8
|
|
|
26
|
|
|
34.82
|
|
|
|
|
|
|
|
|
|
|
|
Total for the nine months ended September 30, 2006
|
|
26.7
|
|
$
|
911
|
|
$
|
34.15
|
|
|
|
|
|
|
|
|
|
|
In September 2007, we
entered into forward sale agreements (the “September 2007 Forward Sale Agreements”) to sell 6.0 million shares of common stock. In connection with the September 2007 Forward Sale Agreements, the counterparties, or forward purchasers,
to the agreements, borrowed 6.0 million shares of common stock from third party market sources and then sold the shares to the public. Pursuant to the September 2007 Forward Sale Agreements, we must sell to the forward purchasers
6.0 million shares of our common stock generally at such times as we elect over a one-year period. The September 2007 Forward Sale Agreements provide for settlement date or dates to be specified at our discretion within the duration of the
September 2007 Forward Sale Agreements through termination in September 2008. On a settlement date, we will issue shares of our common stock to the applicable forward purchaser at the then applicable forward sale price. The forward sale price was
initially $37.63 per share, which was the public offering price of shares of our common stock less the underwriting discount. The September 2007 Forward Sale Agreements provide that the initial forward sale price per share will be subject to daily
adjustment based on a floating interest factor equal to the federal funds rate, less a spread, and will be subject to a decrease by $0.96, $0.98, $1.00 and $1.02 on each of December 7, 2007, March 7, 2008, June 13, 2008 and
September 12, 2008, respectively. The forward sale price will also be subject to decrease if the cost to the forward purchasers of borrowing our common stock exceeds a specified amount. The September 2007 Forward Sale Agreements are considered
equity instruments that are initially measured at a
57
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
fair value of zero and reported in permanent equity. As of September 30, 2007, there were 6.0 million shares available under the September 2007
Forward Sale Agreements at a forward price of $37.71.
In June
2007, we entered into forward sale agreements (the “June 2007 Forward Sale Agreements”) to sell 5.0 million shares of common stock. In connection with the June 2007 Forward Sale Agreements, the counterparties, or forward purchasers,
to the agreements, borrowed 5.0 million shares of common stock from third party market sources and then sold the shares to the public. Pursuant to the June 2007 Forward Sale Agreements, we must sell to the forward purchasers 5.0 million
shares of our common stock generally at such times as we elect over a one-year period. The June 2007 Forward Sale Agreements provide for settlement date or dates to be specified at our discretion within the duration of the June 2007 Forward Sale
Agreements through termination in June 2008. On a settlement date, we will issue shares of our common stock to the applicable forward purchaser at the then applicable forward sale price. The forward sale price was initially $43.02 per share, which
was the public offering price of shares of our common stock less the underwriting discount. The June 2007 Forward Sale Agreements provide that the initial forward sale price per share will be subject to daily adjustment based on a floating interest
factor equal to the federal funds rate, less a spread, and will be subject to a decrease by $0.92, $0.96, $0.98 and $1.00 on each of September 7, 2007, December 7, 2007, March 7, 2008 and June 13, 2008, respectively. The forward
sale price will also be subject to decrease if the cost to the forward purchasers of borrowing our common stock exceeds a specified amount. The June 2007 Forward Sale Agreements are considered equity instruments that are initially measured at a fair
value of zero and reported in permanent equity. As of September 30, 2007, there were 2.1 million shares available under the June 2007 Forward Sale Agreements at a forward price of $42.66.
As of September 30, 2007, all other forward sale agreements had been
fully settled.
Note 12. Investment in European Capital Limited
On May 10, 2007, ECAS closed on an IPO of
14.6 million ordinary shares (including the full exercise of the over-allotment option of 1.9 million shares) at a price of €9.84 per ordinary share for gross proceeds of approximately €144 million ($196 million). The
shares are traded on the main market of the London Stock Exchange under the ticker symbol “ECAS.”
Prior to the IPO, American Capital’s investment in ECAS consisted of 52.1 million participating preferred shares and warrants held by ECFS to
purchase 18.75 million participating preferred shares. Prior to the IPO, ECFS exercised its warrant to purchase 18.75 million participating preferred shares for an exercise price of €9.50 per share, or €178 million
($242 million), and assigned the shares to American Capital. As a result of the IPO, the warrant agreement was terminated, and ECFS will not receive any future warrants. The 18.75 million participating preferred shares received upon the
assignment from ECFS and our existing 52.1 million participating preferred shares were redesignated as ordinary shares as part of the capital reorganization that took effect upon the closing of the IPO. As a result of the IPO, our ownership
interest in ECAS was reduced to a 65% controlling ownership interest. Subsequent to the IPO, American Capital purchased an additional $8 million of ordinary shares in the open market increasing its ownership in ECAS to 66% with a cost basis of
$913 million and fair value of $1,019 million as of September 30, 2007.
Due to the dilution of our ownership interest in ECAS as a result of the IPO, ECFS, the investment manager of ECAS, is no longer considered to be providing substantially all of its services directly or indirectly to
American Capital or its portfolio companies. As a result, in accordance with our consolidation policy and GAAP,
58
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
ECFS was deconsolidated prospectively during the second quarter of 2007 and is recorded at fair value on our balance sheet as part of the fair value of
American Capital, LLC, ECFS’ parent and our portfolio investment. During the second quarter of 2007, we recognized appreciation of $493 million for our investment in American Capital, LLC, the value of which primarily consisted of the
appreciation associated with ECFS, which was for the first time accounted for as a portfolio company at fair value. This appreciation of ECFS occurred over the period since its inception in the fourth quarter of 2005.
In addition, as part of the IPO, ECFS’ existing investment management
agreement and services agreement with ECAS was terminated and ECFS and ECAS entered into a new investment management agreement to provide investment advisory and management services. Under the terms of the new investment management agreement, ECFS
will receive an annual management fee equal to 2% of the weighted average monthly consolidated gross asset value of all the investments of ECAS, an incentive fee equal to 100% of the net earnings in excess of a return of 8% but less than a return of
10% and 20% of the net earnings thereafter, and certain expense reimbursements not to exceed a cap of 0.25% per year of the weighted average monthly consolidated gross asset value of the all investments of ECAS.
In connection with the termination of the old management agreement, ECFS
received a €10 million ($13 million) cash termination payment. In addition, prepaid management fees paid to ECFS under the old investment management agreement of €6 million ($8 million) related to prepaid cost reimbursements
were accounted for by ECFS as an additional termination fee. These amounts were recorded as deferred revenue by American Capital, LLC, the parent of ECFS, and are being amortized into income by American Capital, LLC over four years, the minimum
service period required by ECFS under the new investment management agreement. It is expected that American Capital, LLC will declare a quarterly dividend of its quarterly net operating income to us, to the extent available, which will include the
amortization of this deferred revenue.
Note 13. Asset Sales
In the third quarter of 2007, we sold our investments in 121 subordinated
tranches of bonds in 22 CMBS trusts to ACAS CRE CDO 2007-1, Ltd. (“ACAS CRE CDO”), a new commercial real estate collateralized debt obligation trust. Our cost basis in the CMBS bonds sold to ACAS CRE CDO was $642 million with a principal
balance of $1.2 billion. Third party investors in ACAS CRE CDO purchased AAA through A- bonds for a total purchase price of $411 million with a principal balance of $412 million. We purchased investment grade and non-investment grade notes and
preferred shares of ACAS CRE CDO for a total purchase price of $215 million with a principal balance of $763 million. In accordance with SFAS No. 140, the securities that we purchased are considered to be beneficial interests in the sold CMBS bonds
that are retained by us. The beneficial interests that continue to be held by us were measured at the date of transfer by allocating the previous carrying amount of the sold CMBS bonds between the ACAS CRE CDO notes sold to third parties and the
ACAS CRE CDO notes and preferred shares that we continue to hold based on their relative fair values. To the extent available, the fair values were based on the purchase price paid by third parties. If not available, the fair values were based on a
discounted cash flow analysis utilizing loss assumptions based on historical experience and a discount rate representative of a comparable yield for a similar security.
American Capital CRE Management, LLC, a wholly-owned subsidiary of American Capital, LLC, serves as the collateral manager for ACAS CRE CDO
in exchange for an annual senior management fee of 7.5 basis points and a subordinate fee of 7.5 basis points. In accordance with SFAS 140, the fair value of the collateral management agreement estimated to be $2 million was included as additional
sale proceeds and treated as being contributed to American Capital, LLC increasing our cost basis in that portfolio investment.
59
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(unaudited)
(in
millions, except per share data)
We recorded a net realized loss of $22 million in the third quarter of 2007 related to this
transaction.
Note 14. Subsequent Events
On October 5, 2007, we entered into a Purchase and Sale Agreement with
American Capital Equity II, LP (“ACE II”) for the sale of approximately 17% of our equity investments (other than warrants associated with debt investments) in 80 portfolio companies for an aggregate purchase price of $488 million, subject
to adjustment on December 31, 2007 if the aggregate fair value of the 80 portfolio companies has decreased below the aggregate purchase price. ACE II is a newly established private equity fund with $585 million of equity commitments from third
party investors. The remaining $97 million commitment will be used to fund follow-on investments in the 80 portfolio companies. The purchase price is 3% below the fair value of the equity securities as of June 30, 2007 and for those investments
originated subsequent to June 30, 2007, 3% below their cost basis.
A subsidiary of American Capital, LLC will manage ACE II in exchange for a 2% annual management fee on the cost basis of the assets of the fund and a 10% to 30% carried interest in the net profits of the fund, subject to certain hurdles. In
accordance with SFAS No. 140, our sale proceeds will also include the estimated fair value of the management agreement in addition to the $488 million purchase price. For accounting purposes, the fair value of the management contract will be
treated as being contributed to American Capital, LLC increasing our cost basis. We do not own an economic equity interest in ACE II.
60
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
All statements contained herein that are not historical facts including, but not limited to, statements regarding anticipated activity are forward
looking in nature and involve a number of risks and uncertainties. Actual results may differ materially. Among the factors that could cause actual results to differ materially are the following: (i) changes in the economic conditions in which
we operate negatively impacting our financial resources; (ii) certain of our competitors have greater financial resources than us reducing the number of suitable investment opportunities offered to us or reducing the yield necessary to
consummate the investment; (iii) there is uncertainty regarding the value of our privately held securities that require our good faith estimate of fair value, and a change in estimate could affect our net asset value; (iv) our investments
in securities of privately held companies may be illiquid which could affect our ability to realize a gain; (v) our portfolio companies could default on their loans or provide no returns on our investments which could affect our operating
results; (vi) we are dependent on external financing to grow our business; (vii) our ability to retain key management personnel; (viii) an economic downturn or recession could impair our portfolio companies and therefore harm our
operating results; (ix) our borrowing arrangements impose certain restrictions; (x) changes in interest rates may affect our cost of capital and net operating income; (xi) we cannot incur additional indebtedness unless we maintain an
asset coverage of at least 200%, which may affect returns to our stockholder; (xii) we may fail to continue to qualify for our pass-through treatment as a RIC, which could have an affect on stockholder return; (xiii) our common stock price
may be volatile; (xiv) our strategy of becoming an asset manager of funds of private assets may not be successful and therefore have a negative impact on our results of operation; and (xv) general business and economic conditions and other
risk factors described in our reports filed from time to time with the SEC. We caution readers not to place undue reliance on any such forward-looking statements, which statements are made pursuant to the Private Securities Litigation Reform Act of
1995 and, as such, speak only as of the date made.
We are the only alternative asset management company in the S&P 500. We are the largest U.S.
publicly traded private equity fund and one of the largest publicly traded alternative asset managers with $17 billion in assets under management
(1)
as of
September 30, 2007. We, both directly and through our global asset management business, are an investor in management and employee buyouts, private equity buyouts, and early stage and mature private and public companies. American Capital
and its affiliates invest from $5 million to $800 million per company in North America and €5 million to €500 million per company in Europe.
American Capital Fund
As a business development company, we provide investment capital to middle market companies, which we generally consider to be companies with sales
between $10 million and $750 million. We invest in and sponsor management and employee buyouts, invest in private equity sponsored buyouts, provide capital directly to early stage and mature private and small public companies, invest in commercial
mortgage backed securities (“CMBS”) and collateralized debt obligations (“CDO”) and invest in investment funds managed by us. We provide senior debt, mezzanine debt and equity to fund buyouts, growth, acquisitions and
recapitalizations. We also provide capital directly to private and small public companies for buyouts, growth, acquisitions and recapitalizations.
We seek to be a long-term partner with our portfolio companies. As a long-term partner, we will invest capital in a portfolio company subsequent to our
initial investment if we believe that it can achieve appropriate returns for our investment. Add-on financings fund (i) strategic acquisitions by the portfolio company of either a complete business or specific lines of a business that are
related to the portfolio company’s business,
|
(1)
|
Prior to June 30, 2007, we calculated our assets under management excluding
our investments in third party funds that we manage. Currently, we calculate assets under management including our investments in third party funds that we manage.
|
61
(ii) recapitalization at the portfolio company, (iii) growth at the portfolio company such as product development or plant expansions, or
(iv) working capital for portfolio companies, sometimes in distressed situations, that need capital to fund operating costs, debt service, or growth in receivables or inventory.
Our new investments during the three and nine months ended September 30, 2007 and 2006 were as follows (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
|
2007
|
|
2006
|
|
2007
|
|
2006
|
|
American Capital Sponsored Buyouts
|
|
$
|
586
|
|
$
|
533
|
|
$
|
2,503
|
|
$
|
1,840
|
|
Financing for Private Equity Buyouts
|
|
|
231
|
|
|
202
|
|
|
1,188
|
|
|
326
|
|
Investments in Managed Funds
|
|
|
229
|
|
|
—
|
|
|
471
|
|
|
—
|
|
Direct Investments
|
|
|
74
|
|
|
92
|
|
|
633
|
|
|
110
|
|
CMBS Investments
|
|
|
169
|
|
|
42
|
|
|
424
|
|
|
259
|
|
CDO Investments
|
|
|
14
|
|
|
24
|
|
|
101
|
|
|
83
|
|
Add-On Financing for Acquisitions
|
|
|
11
|
|
|
108
|
|
|
273
|
|
|
489
|
|
Add-On Financing for Recapitalizations
|
|
|
26
|
|
|
187
|
|
|
298
|
|
|
337
|
|
Add-On Financing for Growth
|
|
|
1
|
|
|
—
|
|
|
5
|
|
|
2
|
|
Add-On Financing for Working Capital
|
|
|
52
|
|
|
5
|
|
|
70
|
|
|
13
|
|
Add-On Financing for Working Capital in Distressed Situations
|
|
|
8
|
|
|
14
|
|
|
25
|
|
|
16
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,401
|
|
$
|
1,207
|
|
$
|
5,991
|
|
$
|
3,475
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We received cash
proceeds from realizations and repayments of portfolio investments, excluding repayments of bridge notes and accrued PIK interest from ECAS, as follows (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
|
2007
|
|
2006
|
|
2007
|
|
2006
|
|
Principal Prepayments
|
|
$
|
309
|
|
$
|
448
|
|
$
|
938
|
|
$
|
785
|
|
Senior Loan Syndications
|
|
|
648
|
|
|
81
|
|
|
1,298
|
|
|
190
|
|
Scheduled Principal Amortization
|
|
|
18
|
|
|
21
|
|
|
53
|
|
|
49
|
|
Payment of Accrued PIK Interest and Dividends and Original Issue Discounts
|
|
|
11
|
|
|
44
|
|
|
45
|
|
|
57
|
|
Sale of CMBS Securities
|
|
|
402
|
|
|
—
|
|
|
402
|
|
|
—
|
|
Sale of Equity Investments
|
|
|
110
|
|
|
217
|
|
|
315
|
|
|
356
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,498
|
|
$
|
811
|
|
$
|
3,051
|
|
$
|
1,437
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of
September 30, 2007, our ten largest investments, at fair value, were as follows (in millions):
|
|
|
|
|
|
|
|
Company Name
|
|
Industry
|
|
Fair Value
|
|
European Capital Limited
|
|
Diversified Financial Services
|
|
$
|
1,019
|
|
American Capital, LLC
|
|
Capital Markets
|
|
|
562
|
|
WRH, Inc.
|
|
Biotechnology
|
|
|
404
|
|
Exstream Holdings, Inc.
|
|
Software
|
|
|
403
|
|
Appleseed’s Topco, Inc.
|
|
Internet & Catalog Retail
|
|
|
334
|
|
Mirion Technologies, Inc.
|
|
Electrical Equipment
|
|
|
298
|
|
SMG Holdings, Inc.
|
|
Hotels, Restaurants & Leisure
|
|
|
287
|
|
Ranpak, Inc.
|
|
Containers & Packaging
|
|
|
263
|
|
STB Holdings, Inc.
|
|
Household Durables
|
|
|
244
|
|
WIS Holding Company, Inc.
|
|
Commercial Services & Supplies
|
|
|
217
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
$
|
4,031
|
|
|
|
|
|
|
|
62
Public Manager of Funds of Alternative Assets
We are a leading global alternative asset manager of third party funds. In addition to managing American Capital’s
assets and providing management services to portfolio companies of American Capital, we also manage European Capital Limited (“ECAS”), American Capital Equity I, LLC (“ACE I”), ACAS CLO 2007-1, Ltd. (“ACAS CLO-1”), ACAS
CLO 2007-2, Ltd. (“ACAS CLO-2”) and American Capital CRE CDO, Ltd. (“ACAS CRE CDO”). We may manage third party funds either through a consolidated operating subsidiary or through a wholly-owned portfolio company. We refer to the
asset management business throughout this report to include the asset management activities conducted by both consolidated operating subsidiaries and wholly-owned alternative asset fund management portfolio companies. As of September 30, 2007,
all of our third party alternative asset fund management services are conducted through our wholly-owned portfolio company, American Capital, LLC.
As of September 30, 2007, our assets under management totaled $17 billion, including $5.1 billion under management in the above third party funds. As
of September 30, 2007, our capital resources under management totaled $19 billion, including $5.4 billion under management in the above third party funds.
Through our asset management business, American Capital, LLC earns base management fees based on the size of our funds and incentive income based on
the performance of our funds. In addition, we may invest directly into our alternative asset funds and earn investment income from our investments in those funds. We intend to grow our existing funds, while continuing to create innovative products
to meet the increasing demand of sophisticated investors for superior risk-adjusted investment returns.
The following table sets forth certain information with respect to our funds under management as of September 30, 2007.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
American Capital
|
|
ECAS
|
|
ACE I
|
|
ACAS
CLO-1
|
|
ACAS
CLO-2
|
|
ACAS
CRE CDO
|
|
Fund type
|
|
Public Alternative Asset
Manager & Fund
|
|
Public Fund—London
Stock Exchange
|
|
Private Fund
|
|
Private Fund
|
|
Private Fund
|
|
Private Fund
|
|
Established
|
|
1986
|
|
2005
|
|
2006
|
|
2006
|
|
2007
|
|
2007
|
|
Assets under management
|
|
$11.5 Billion(1)
|
|
€2.0 Billion
|
|
$1.1 Billion
|
|
$0.4 Billion
|
|
$0.2 Billion
|
|
$0.6 Billion
|
|
Investment types
|
|
Senior & Subordinated Debt,
Equity, CMBS & CDO
|
|
Senior & Subordinated
Debt, Equity &
CDO
|
|
Equity
|
|
Senior Debt
|
|
Senior Debt
|
|
CMBS
|
|
Capital type
|
|
Permanent
|
|
Permanent
|
|
Finite Life
|
|
Finite Life
|
|
Finite Life
|
|
Finite Life
|
|
(1)
|
Includes our investment in third party funds that we manage.
|
ECAS, a fund incorporated in Guernsey, was initially a private equity fund established in 2005 that invests in and sponsors management and employee
buyouts, invests in private equity buyouts and provides capital directly to private and mid-sized public companies primarily in Europe. On May 10, 2007, ECAS closed on an initial public offering (“IPO”) of ordinary shares, and the
ordinary shares were admitted to the Official List of the U.K. Financial Services Authority and to trading on the main market of the London Stock Exchange under the ticker symbol “ECAS.” ECAS is managed by European Capital Financial
Services (Guernsey) Limited (“ECFS”), which is wholly-owned by our portfolio company, American Capital, LLC. ECFS earns a base management fee of 2.0% of ECAS’ assets and receives 20% of net profits of ECAS, subject to certain hurdles.
ACE I is a private equity fund with $1 billion of equity
commitments established in 2006. ACE I co-invests with American Capital in an amount equal to 30% of our future equity investments until the remaining commitment is exhausted. As of September 30, 2007, ACE I had $6 million of unfunded equity
commitments outstanding. American Capital Equity Management, LLC (“ACEM”), which is wholly-owned by American Capital, LLC, manages ACE I in exchange for a 2% base management fee on the net cost basis of ACE I’s assets and receives 10%
to 30% of net profits of ACE I, subject to certain hurdles.
ACAS CLO-1, a fund that was established in 2006, invests in broadly syndicated and middle market senior loans. ACAS CLO-1 was initially in a “warehouse stage” and completed a $400 million securitization in April
63
2007. We purchased 55% of the BB rated notes and 70% of the non-rated subordinated notes in ACAS CLO-1 for a total purchase price of $33 million. American
Capital Asset Management, LLC (“ACAM”), which is wholly-owned by American Capital, LLC, is the manager of ACAS CLO-1. ACAM earns a base management fee of 0.68% of ACAS CLO-1’s assets and receives 20% of net profits of ACAS CLO-1,
subject to certain hurdles.
ACAS CLO-2 is a fund in a
“warehouse stage” as of September 30, 2007 that invests in broadly syndicated and middle market senior loans. The fund is expected to complete a securitization in 2008. ACAM is the manager of ACAS CLO-2 during the
“warehouse” stage and we expect ACAM to remain the manager post-securitization, subject to consent of the lender. The management fees earned by ACAM during the warehouse stage are not significant. We currently have no investment in ACAS
CLO-2.
ACAS CRE CDO, a fund that was established in 2007, is a
newly established commercial real estate collateralized debt obligation trust that holds investments in subordinated tranches of CMBS trusts. We own investment grade and non-investment grade notes and preferred shares of ACAS CRE CDO. American
Capital CRE Management, LLC, a wholly-owned subsidiary of American Capital, LLC, serves as the collateral manager for ACAS CRE CDO in exchange for an annual senior management fee of 7.5 basis points and a subordinate fee of 7.5 basis points.
Our Structure
We consolidate a company that manages a fund if it is determined that all or
substantially all of the services being provided to the fund are also being indirectly provided to American Capital through our ownership interest in the fund. We do not consolidate a company that manages a fund if it does not provide all or
substantially all of its services directly or indirectly to American Capital or its portfolio companies, and such non-consolidated companies are recorded as portfolio company investments at fair value on our consolidated balance sheet. During the
second quarter of 2007, we formed a parent holding company, American Capital, LLC, to hold all American Capital owned third party alternative asset fund managers. Accordingly, American Capital, LLC is parent to ECFS, ACAM, ACEM and American Capital
CRE Management, LLC. American Capital, LLC is treated as a portfolio company investment and carried at a fair value of $562 million on the accompanying balance sheet at September 30, 2007. We expect that American Capital, LLC will pay dividends
to us each quarter to the extent of its net operating income, if any. American Capital employees provide services to American Capital, LLC to enable them to carry out their asset management responsibilities in return for a fee based on the cost of
the services provided.
We expect to continue to develop our
asset management business as a publicly traded manager of funds of alternative assets. Our corporate development team and marketing department conduct market research and due diligence to identify industry and geographic sectors of alternative
assets that have attractive investment attributes and where we can create an alternative asset fund with attractive return prospects. In addition to alternative asset funds focused on a specific industry or geographic location, we will also identify
potential alternative asset funds that will invest in a specific security type such as first lien debt, second lien debt, real estate loans or equity securities. We would expect to enter into asset management agreements with the alternative asset
funds through our wholly-owned portfolio company, American Capital, LLC.
The following analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the notes thereto.
Results of Operations
Our consolidated financial performance, as reflected in our interim consolidated statements of operations, consists of three
primary elements. The first element is “Net operating income,” which is primarily the interest, dividends and prepayment fees earned from investing in debt and equity securities and the fees we earn from portfolio company management, asset
management, financing and transaction structuring activities, less our
64
operating expenses and provision for income taxes. The second element is “Net realized gain (loss) on investments,” which reflects the difference
between the proceeds from an exit of an investment and the cost at which the investment was carried on our consolidated balance sheets and periodic settlements of derivatives. The third element is “Net unrealized appreciation (depreciation) of
investments,” which is the net change in the estimated fair value of our investments and the change in the estimated fair value of the future payment streams of our interest rate derivatives, at the end of the period compared with their
estimated fair values at the beginning of the period or their stated costs, as appropriate. Our net realized earnings are comprised of our net operating income and net realized gain (loss) on investments.
The consolidated operating results for the three and nine months ended
September 30, 2007 and 2006 were as follows (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
Operating income
|
|
$
|
310
|
|
|
$
|
231
|
|
|
$
|
886
|
|
|
$
|
616
|
|
|
Operating expenses
|
|
|
163
|
|
|
|
115
|
|
|
|
463
|
|
|
|
286
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income before income taxes
|
|
|
147
|
|
|
|
116
|
|
|
|
423
|
|
|
|
330
|
|
|
Benefit (provision) for income taxes
|
|
|
6
|
|
|
|
(6
|
)
|
|
|
(3
|
)
|
|
|
(18
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net operating income
|
|
|
153
|
|
|
|
110
|
|
|
|
420
|
|
|
|
312
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized gain on investments
|
|
|
71
|
|
|
|
52
|
|
|
|
170
|
|
|
|
118
|
|
|
Net unrealized appreciation (depreciation) of investments
|
|
|
(203
|
)
|
|
|
(30
|
)
|
|
|
353
|
|
|
|
153
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in net assets resulting from operations before cumulative effect of accounting change
|
|
|
21
|
|
|
|
132
|
|
|
|
943
|
|
|
|
583
|
|
|
Cumulative effect of accounting change, net of tax
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in net assets resulting from operations
|
|
$
|
21
|
|
|
$
|
132
|
|
|
$
|
943
|
|
|
$
|
584
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Operating Income
Operating Income
For the three months ended September 30, 2007, operating income
increased $79 million, or 34%, over the three months ended September 30, 2006. For the nine months ended September 30, 2007, operating income increased $270 million, or 44%, over the nine months ended September 30, 2006.
We have two primary lines of business: Investing and Asset Management and
Advisory. We derive the majority of our operating income from our Investing segment, which primarily invests in senior and subordinated debt and equity of private and public companies with attractive current yields and/or potential for equity
appreciation and realized gains.
Our Asset Management and
Advisory segment provides management services to both our portfolio company investments and third party alternative asset funds. Our Asset Management and Advisory segment includes financial advisory services provided to our portfolio company
investments and includes both fees for middle market portfolio company management for providing advice and analysis to our middle market portfolio companies, which can be recurring in nature, and transaction structuring and financing fees for
structuring, financing and executing middle market portfolio transactions, which may not be recurring in nature. These services are primarily provided by our consolidated operating subsidiary, ACFS. Our Asset Management and Advisory Segment also
includes our third party alternative asset fund management business, which may be conducted through consolidated operating subsidiaries or wholly-owned portfolio companies. In general, a controlled operating subsidiary that manages a third party
alternative asset fund would be consolidated if
65
American Capital owned a significant interest in such fund as the controlled operating subsidiary would be considered to be providing substantially all of
its services to American Capital. As of September 30, 2007, all of our third party alternative asset fund management services in our Asset Management and Advisory segment are conducted through our wholly-owned portfolio company, American
Capital, LLC. Prior to the second quarter of 2007, our third party alternative asset fund management services were conducted through both ECFS, which was deconsolidated in the second quarter of 2007 (See Note 3 to our consolidated financial
statements), and wholly-owned portfolio companies. We expect American Capital, LLC to declare regular quarterly dividends of its quarterly net operating income to us that would be included in our Asset Management and Advisory segment as dividend
income.
The following is a summary of our operating income by
segment for the three and nine months ended September 30, 2007 and 2006 (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30, 2007
|
|
Three Months Ended
September 30, 2006
|
|
|
|
Investing
|
|
Asset
Management
and Advisory
|
|
Consolidated
|
|
Investing
|
|
Asset
Management
and Advisory
|
|
Consolidated
|
|
Interest and dividend income
|
|
$
|
259
|
|
$
|
9
|
|
$
|
268
|
|
$
|
180
|
|
$
|
—
|
|
$
|
180
|
|
Fee and other income
|
|
|
7
|
|
|
35
|
|
|
42
|
|
|
5
|
|
|
46
|
|
|
51
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
$
|
266
|
|
$
|
44
|
|
$
|
310
|
|
$
|
185
|
|
$
|
46
|
|
$
|
231
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
September 30, 2007
|
|
Nine Months Ended
September 30, 2006
|
|
|
|
Investing
|
|
Asset
Management
and Advisory
|
|
Consolidated
|
|
Investing
|
|
Asset
Management
and Advisory
|
|
Consolidated
|
|
Interest and dividend income
|
|
$
|
684
|
|
$
|
38
|
|
$
|
722
|
|
$
|
467
|
|
$
|
—
|
|
$
|
467
|
|
Fee and other income
|
|
|
13
|
|
|
151
|
|
|
164
|
|
|
14
|
|
|
135
|
|
|
149
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
$
|
697
|
|
$
|
189
|
|
$
|
886
|
|
$
|
481
|
|
$
|
135
|
|
$
|
616
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing Segment
Operating income from our Investing segment consisted of the following
for the three and nine months ended September 30, 2007 and 2006 (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
|
2007
|
|
2006
|
|
2007
|
|
2006
|
|
Interest income on debt securities
|
|
$
|
199
|
|
$
|
145
|
|
$
|
541
|
|
$
|
379
|
|
Interest income on bank deposits
|
|
|
3
|
|
|
2
|
|
|
7
|
|
|
5
|
|
Dividend income on equity securities
|
|
|
57
|
|
|
33
|
|
|
136
|
|
|
83
|
|
Prepayment fees
|
|
|
5
|
|
|
4
|
|
|
8
|
|
|
8
|
|
Other fees
|
|
|
2
|
|
|
1
|
|
|
5
|
|
|
6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
$
|
266
|
|
$
|
185
|
|
$
|
697
|
|
$
|
481
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest income on
debt securities increased by $54 million, or 37%, and $162 million, or 43%, for the three and nine months ended September 30, 2007, respectively, over the comparable periods in 2006 primarily due to an increase in our debt investments, which
was partially offset by a decline in the daily weighted average effective interest rate on our debt investments. Dividend income on equity securities increased by $24 million, or 73%, and $53 million, or 64%, for the three and nine month ended
September 30, 2007, over the comparable
66
periods in 2006 primarily due to an increase in our equity investments. The following table summarizes selected data for our debt and equity investments, at
cost, for the three and nine months ended September 30, 2007 and 2006 (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
Daily weighted average effective interest rate on debt investments, excluding interest rate swaps
|
|
|
12.2
|
%
|
|
|
12.4
|
%
|
|
|
11.9
|
%
|
|
|
12.5
|
%
|
|
Daily weighted average effective interest rate on debt investments, including interest rate swaps
|
|
|
12.1
|
%
|
|
|
12.7
|
%
|
|
|
12.1
|
%
|
|
|
12.7
|
%
|
|
Daily weighted average debt investments
|
|
$
|
6,457
|
|
|
$
|
4,620
|
|
|
$
|
6,087
|
|
|
$
|
4,044
|
|
|
Senior loans as a % of debt investments as of period end
|
|
|
50.6
|
%
|
|
|
46.9
|
%
|
|
|
50.6
|
%
|
|
|
46.9
|
%
|
|
CMBS investments as a % of daily weighted average debt
investments
|
|
|
8.8
|
%
|
|
|
7.0
|
%
|
|
|
9.6
|
%
|
|
|
4.9
|
%
|
|
CMBS investments as a % of daily weighted average debt and equity investments(1)
|
|
|
5.5
|
%
|
|
|
4.5
|
%
|
|
|
6.2
|
%
|
|
|
3.2
|
%
|
|
CMBS investments as a % of debt and equity investments as of period end(1)
|
|
|
4.7
|
%
|
|
|
4.5
|
%
|
|
|
4.7
|
%
|
|
|
4.5
|
%
|
|
Average monthly one-month LIBOR rate
|
|
|
5.4
|
%
|
|
|
5.4
|
%
|
|
|
5.3
|
%
|
|
|
5.1
|
%
|
|
Daily weighted average effective yield on equity investments(1)
|
|
|
5.7
|
%
|
|
|
5.1
|
%
|
|
|
5.6
|
%
|
|
|
5.3
|
%
|
|
Daily weighted average equity investments(1)
|
|
$
|
3,968
|
|
|
$
|
2,523
|
|
|
$
|
3,241
|
|
|
$
|
2,120
|
|
|
Daily weighted average effective interest rate on debt and equity investments, excluding interest rate swaps(1)
|
|
|
9.7
|
%
|
|
|
9.9
|
%
|
|
|
9.7
|
%
|
|
|
10.0
|
%
|
|
Daily weighted average effective interest rate on debt and equity investments, including interest rate swaps(1)
|
|
|
9.7
|
%
|
|
|
10.0
|
%
|
|
|
9.8
|
%
|
|
|
10.1
|
%
|
|
Daily weighted average debt and equity investments(1)
|
|
$
|
10,425
|
|
|
$
|
7,143
|
|
|
$
|
9,328
|
|
|
$
|
6,164
|
|
|
(1)
|
Excludes our equity investment in third party alternative asset fund manager portfolio companies.
|
The daily weighted average effective interest rate on debt investments, including CMBS, for the three and nine months ended
September 30, 2007 decreased 20 basis points and 60 basis points, respectively, excluding interest rate swaps. This is primarily due to an (i) increase in our investment in CMBS securities, (ii) an increase in total senior loans as
a percentage of our total loan portfolio, and (iii) a contraction of the spreads over LIBOR for our new loan originations primarily from late 2004 through early 2007. However, the spreads over LIBOR for our originations in the third
quarter of 2007 widened and we would expect that spreads will continue to widen in the fourth quarter of 2007.
Including the impact of interest rate swaps, our daily average effective interest rate on debt investments decreased 60 basis points for both the three
and nine months ended September 30, 2007. We attempt to match-fund our liabilities and assets by financing floating rate assets with floating rate liabilities and fixed rate assets with fixed rate liabilities or equity. We enter into interest
rate swap agreements to match the interest rate basis of our assets and liabilities, thereby locking in the spread between our asset yield and the cost of our borrowings, and to fulfill our obligations under the terms of our revolving debt funding
facilities and asset securitizations. Our derivatives are considered economic hedges that do not qualify for hedge accounting under FASB Statement No. 133,
Accounting for Derivative Instruments and Hedging Activities
(“SFAS
No. 133”). Under GAAP, we record the accrual of the periodic interest settlements of interest rate derivatives in net unrealized appreciation (depreciation) of investments and subsequently record the amount as a net realized gain (loss) on
investments on the interest settlement date. In the three months ended September 30, 2007 and 2006, the total interest (cost) benefit of interest rate derivative agreements included in both net realized gain (loss) on investments and unrealized
appreciation (depreciation) of investments was $(1) million and $3 million, respectively. In the nine months ended September 30, 2007 and 2006, the total interest benefit of interest rate derivative agreements included in both net realized gain
(loss) on investments and unrealized appreciation (depreciation) of investments was $9 million and $4 million, respectively.
67
The daily weighted average yield on equity investments increased 60 basis points and 30 basis points in
the three and nine months ended September 30, 2007, respectively. This is primarily due to dividend income recorded on our equity investment in ECAS of $13 million and $37 million for the three and nine months ended September 30, 2007,
respectively. In the prior periods in 2006, we did not record any dividend income on our equity investment in ECAs.
Asset Management and Advisory Segment
Operating income from our Asset Management and Advisory segment consisted of the following for the three and nine months ended September 30, 2007 and
2006 (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
|
2007
|
|
2006
|
|
2007
|
|
2006
|
|
Dividend income from alternative asset fund management portfolio companies
|
|
$
|
9
|
|
$
|
—
|
|
$
|
38
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividend income
|
|
|
9
|
|
|
—
|
|
|
38
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan financing fees
|
|
|
4
|
|
|
6
|
|
|
31
|
|
|
17
|
|
Equity financing fees
|
|
|
11
|
|
|
7
|
|
|
40
|
|
|
25
|
|
Transaction structuring fees
|
|
|
5
|
|
|
9
|
|
|
24
|
|
|
35
|
|
Fund asset management fees and reimbursements
|
|
|
5
|
|
|
11
|
|
|
27
|
|
|
27
|
|
Portfolio company advisory and administrative fees
|
|
|
8
|
|
|
6
|
|
|
21
|
|
|
18
|
|
Other
|
|
|
2
|
|
|
7
|
|
|
8
|
|
|
13
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fee and other income
|
|
|
35
|
|
|
46
|
|
|
151
|
|
|
135
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income
|
|
$
|
44
|
|
$
|
46
|
|
$
|
189
|
|
$
|
135
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividend Income
Each quarter, our wholly-owned alternative asset fund
management portfolio companies declare a dividend of their quarterly net operating income to us. During the second quarter of 2007, all of our wholly-owned alternative asset fund management portfolio companies, including ECFS, were transferred to
American Capital, LLC, a portfolio company. The net operating income of American Capital, LLC is comprised of the base management fees, profit sharing (called carried interest or incentive fee) and transaction fees it earns less the operating
expenses it incurs for providing the alternative asset fund management services. For the three and nine months ended September 30, 2007, our wholly-owned alternative asset fund management portfolio companies declared a dividend of $9 million
and $38 million, respectively, to us based on the following financial results (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
|
2007
|
|
|
2006
|
|
2007
|
|
|
2006
|
|
Revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Management fees
|
|
$
|
18
|
|
|
$
|
—
|
|
$
|
33
|
|
|
$
|
—
|
|
Incentive fees
|
|
|
3
|
|
|
|
—
|
|
|
7
|
|
|
|
—
|
|
Transaction fees
|
|
|
7
|
|
|
|
—
|
|
|
22
|
|
|
|
—
|
|
Other
|
|
|
1
|
|
|
|
—
|
|
|
7
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues
|
|
|
29
|
|
|
|
—
|
|
|
69
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses
|
|
|
20
|
|
|
|
—
|
|
|
31
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net operating income
|
|
|
9
|
|
|
|
—
|
|
|
38
|
|
|
|
—
|
|
Net investment and foreign currency translation losses
|
|
|
(1
|
)
|
|
|
—
|
|
|
(4
|
)
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
8
|
|
|
$
|
—
|
|
$
|
34
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
68
Fee and Other Income
Prior to the second quarter of 2007, ECFS was a consolidated operating subsidiary that earned fund asset management fees and
expense reimbursement revenues. For the three and nine months ended September 30, 2006, the fund asset management fees and reimbursement revenues earned by ECFS were $10 million and $26 million, respectively. For the nine months ended
September 30, 2007, the fund asset management fees and reimbursements revenue earned by ECFS was $15 million. There were no fund asset management fees and reimbursements revenue earned by ECFS in the third quarter of 2007 as it was
deconsolidated in the second quarter of 2007. The fund asset management fees and reimbursements revenue in the third quarter of 2007 represents fees for providing advisory and administrative services to our alternative asset fund management
portfolio companies.
Loan financing fees for the three and
nine months ended September 30, 2007 decreased $2 million, or 33%, and increased $14 million, or 82%, respectively, over the comparable periods in 2006. The decrease in loan financing fees for the three months ended September 30, 2007 was
attributable to a decrease in new debt investments of $270 million over the prior period. The increase in loan financing fees for the nine months ended September 30, 2007 was attributable to an increase in new debt investments of $1,461 million
over the comparable period in 2006. The loan financing fees were 0.6% of loan originations for both the three months ended September 30, 2007 and 2006 and 0.8% and 0.7% for the nine months ended September 30, 2007 and 2006, respectively.
Loan fees received that are representative of additional yield are recorded as original issue discount and accreted into interest income using the effective interest method.
Equity financing fees for the three and nine months ended September 30, 2007 increased $4 million and $15 million,
respectively, over the comparable periods in 2006. The increase in equity financing fees was attributable to an increase in new equity investments of $130 million and $415 million for the three and nine month periods ended September 30, 2007,
respectively, over the comparable periods in 2006. Equity financing fees were 2.8% and 2.6% of equity financing in the three months ended September 30, 2007 and 2006, respectively, and 3.1% and 2.9% in the nine months ended September 30,
2007 and 2006, respectively.
In the three months ended
September 30, 2007, we recorded $5 million in transaction structuring fees for one American Capital sponsored buyout investment of $564 million of American Capital financing. In the same period in 2006, we recorded $9 million in
transaction structuring fees for five buyout investments totaling $567 million of American Capital financing. The transaction structuring fees were 0.9% and 1.6% of American Capital financing in the three months ended September 30, 2007 and
2006, respectively. In the nine months ended September 30, 2007, we recorded $24 million in transaction structuring fees for 14 American Capital sponsored buyout investments totaling $2,481 million of American Capital financing. In the same
period in 2006, we recorded $35 million in transaction structuring fees for 18 buyout investments totaling $1,999 million of American Capital financing. The transaction structuring fees were 1.0% and 1.7% of American Capital financing in the
first nine months of 2007 and 2006, respectively.
Operating Expenses
Operating expenses
for the three months ended September 30, 2007 increased $48 million, or 42%, over the comparable period in 2006. For the nine months ended September 30, 2007 operating expenses increased $177 million, or 62%, over the comparable period in
2006. Our operating leverage was 2.3% and 2.1% for the three months ended September 30, 2007 and 2006, respectively. Our operating leverage was 2.2% and 1.9% for the nine months ended September 30, 2007 and 2006, respectively. Operating
leverage is our annualized operating expenses, excluding stock-based compensation, interest expense and operating expenses reimbursed under management agreements, divided by our total assets at period end.
69
Interest Expense
Interest expense for the three and nine months ended September 30, 2007 increased $24 million, or 44% and $82 million, or 62%,
respectively, over the comparable periods in 2006. The increase in interest expense for the three months ended September 30, 2007 is due to an increase in our weighted average borrowings from $3,413 million in the three months ended
September 30, 2006 to $5,016 million in the comparable period in 2007. The increase in interest expense for the nine months ended September 30, 2007 is due to an increase in our weighted average borrowings from $2,846 million in the nine
months ended September 30, 2006 to $4,542 million in the comparable period in 2007. The weighted average interest rate on all of our borrowings was 6.3% and 6.5% for the three months ended September 30, 2007 and 2006, respectively. The
weighted average interest rate on all of our borrowings for the nine months ended September 30, 2007 and 2006 was 6.3% and 6.2%, respectively.
Salaries, Benefits and Stock-based Compensation
Salaries, benefits and stock-based compensation consisted of the following for the three and nine months ended September 30, 2007 and 2006 (in
millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
|
2007
|
|
2006
|
|
2007
|
|
2006
|
|
Salaries
|
|
$
|
38
|
|
$
|
25
|
|
$
|
114
|
|
$
|
67
|
|
Benefits
|
|
|
4
|
|
|
3
|
|
|
14
|
|
|
9
|
|
Stock-based compensation
|
|
|
17
|
|
|
13
|
|
|
49
|
|
|
27
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total salaries, benefits and stock-based compensation
|
|
$
|
59
|
|
$
|
41
|
|
$
|
177
|
|
$
|
103
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The increase in
salaries, benefits and stock-based compensation is due to (i) an increase in employees, (ii) annual salary rate increases, and (iii) additional stock-based compensation primarily from our incentive bonus plan. Our number of employees
increased 46% from 405 at September 30, 2006 to 592 at September 30, 2007, excluding employees at American Capital, LLC of 101 and 47 at September 30, 2007 and 2006, respectively. The increase in the number of employees is due to our
growth; we have added investment professionals and administrative staff as we continue to build our investment platform and our asset management business, including the opening of new offices and expansion of existing offices.
In 2006, we established an incentive bonus plan, which is a non-qualified
deferred compensation plan for the purpose of granting bonus awards to our employees. A trust having segregated accounts for each employee was established as required by the plan. Cash bonus awards under the plan are determined by our Compensation
and Corporate Governance Committee and are contributed to the trust. The trust invests the cash bonus awards in our common stock by purchasing shares of our common stock on the open market. The awards under the plan are accounted for as a grant of
unvested stock. We record stock-based compensation expense based on the cash bonus award invested in our stock. The compensation cost for awards with service conditions is recognized using the straight-line attribution method over the requisite
service period. The compensation cost for awards with performance and service conditions is recognized using the accelerated attribution method over the requisite service period. During the three months ended September 30, 2007 and 2006, we
recorded $12 million and $8 million, respectively, of stock-based compensation related to the incentive bonus plan. During the nine months ended September 30, 2007 and 2006, we recorded $32 million and $13 million, respectively, of stock-based
compensation related to the incentive bonus plan. We also have stock option plans, which provide for the granting of options to employees and non-employee directors to purchase shares of our common stock at a price of not less than the fair market
value of the common stock on the date of grant. During the three months ended September 30, 2007 and 2006, we recorded $5 million of stock-based compensation related to stock options. During the nine months ended September 30, 2007
and 2006, we recorded $17 million and $14 million, respectively, of stock-based compensation related to stock options.
70
General and Administrative Expenses
General and administrative expenses increased from $19 million in the three months ended September 30, 2006 to $25
million in the comparable period in 2007. General and administrative expenses increased from $51 million in the nine months ended September 30, 2006 to $72 million in the comparable period in 2007. The increase is primarily due to additional
overhead attributable to the increase in the number of employees, the opening of new offices and expansion of existing offices, higher employee recruiting costs and rent expense, as well as higher legal and board of director fees.
Provision for Income Taxes
We operate to qualify as a RIC under Subchapter M of the Code. Our tax year
ends on September 30. If we continue to qualify as a RIC we will not be subject to federal income tax on the portion of our investment company ordinary taxable income and long-term capital gains we distribute to our stockholders.
As permitted by the Code, a RIC can designate dividends paid in the
subsequent tax year as dividends of current year ordinary taxable income and long-term capital gains if those dividends are both declared by the extended due date of the RIC’s federal income tax return and paid to stockholders by the last day
of the subsequent tax year. Accordingly, dividends declared by June 15, 2008, the extended due date of our return, and paid by September 30, 2008, will be comprised of a portion of our ordinary income and all of our long-term capital gain
income from the tax year ended September 30, 2007.
For
the tax year ended September 30, 2007, we had net long-term capital gains of $142 million that we will distribute to our stockholders as dividends by September 30, 2008. For the tax year ended September 30, 2006, we had net long-term
capital gains of $43 million. In the fourth quarter of 2006, we elected to retain these long-term capital gains and treat as a deemed distribution to our shareholders. In order to make the election to retain these 2006 capital gains, we incurred and
paid a federal tax on behalf of our shareholders of $15 million in the fourth quarter of 2006.
We are also subject to a nondeductible federal excise tax of 4% if we do not distribute at least 98% of our investment company ordinary taxable income in any calendar year and 98% of our taxable long-term capital
gains for each one-year period ending October 31, including any undistributed income from the prior excise tax year. For the calendar year ended December 31, 2006 and the one-year period ending October 31, 2006, we did not distribute
at least 98% of our ordinary taxable income and long-term capital gains, respectively, and paid the 4% excise tax. The undistributed ordinary taxable income and long-term capital gains from our 2006 excise year totaled $147 million. For our 2007
excise tax year, we do not expect to distribute at least 98% of the total of our ordinary taxable income and long-term capital gains from the 2007 excise tax year, including our undistributed taxable income from the 2006 excise tax year, and we
would pay the 4% excise tax on such amount. For the three and nine months ended September 30, 2007, we accrued $0 and $6 million, respectively, of excise tax attributable to undistributed ordinary income, which is included in our provision for
income taxes on the accompanying consolidated statements of operations. For the three and nine months ended September 30, 2006, we accrued $2 million and $3 million, respectively, of excise tax attributable to undistributed ordinary income,
which is included in our provision for income taxes on the accompanying consolidated statements of operations. In addition, for the three months ended September 30, 2007, we accrued $4 million of excise tax attributable to undistributed
long-term capital gains, which is included in net realized gains on the accompanying consolidated statements of operations.
71
Net Realized Gain (Loss) on Investments
Our net realized gain (loss) for the three and nine months ended September 30, 2007 and 2006 consisted of the following
(in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
EAG Acquisition, LLC
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
50
|
|
|
$
|
—
|
|
|
ACSAB, LLC
|
|
|
43
|
|
|
|
—
|
|
|
|
43
|
|
|
|
—
|
|
|
SAV Holdings, Inc.
|
|
|
43
|
|
|
|
—
|
|
|
|
43
|
|
|
|
—
|
|
|
The Hygenic Corporation
|
|
|
—
|
|
|
|
—
|
|
|
|
22
|
|
|
|
—
|
|
|
Ranpak, Inc.
|
|
|
—
|
|
|
|
—
|
|
|
|
19
|
|
|
|
—
|
|
|
KAC Holdings, Inc.
|
|
|
1
|
|
|
|
47
|
|
|
|
1
|
|
|
|
47
|
|
|
Iowa Mold Tooling Co., Inc
|
|
|
—
|
|
|
|
36
|
|
|
|
—
|
|
|
|
36
|
|
|
3SI Acquisition Holdings, Inc.
|
|
|
—
|
|
|
|
—
|
|
|
|
1
|
|
|
|
27
|
|
|
ASC Industries, Inc.
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
25
|
|
|
Jones Stephens Corp.
|
|
|
—
|
|
|
|
25
|
|
|
|
1
|
|
|
|
25
|
|
|
Network for Medical Communication & Research, LLC
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
22
|
|
|
Bankruptcy Management Solutions, Inc.
|
|
|
—
|
|
|
|
22
|
|
|
|
—
|
|
|
|
22
|
|
|
Other
|
|
|
11
|
|
|
|
18
|
|
|
|
43
|
|
|
|
36
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total gross realized portfolio gains
|
|
|
98
|
|
|
|
148
|
|
|
|
223
|
|
|
|
240
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sale of 22 CMBS investments
|
|
|
(22
|
)
|
|
|
—
|
|
|
|
(22
|
)
|
|
|
—
|
|
|
Logex Corporation
|
|
|
—
|
|
|
|
(7
|
)
|
|
|
(21
|
)
|
|
|
(7
|
)
|
|
Weber Nickel Technologies, Ltd.
|
|
|
—
|
|
|
|
(29
|
)
|
|
|
—
|
|
|
|
(29
|
)
|
|
Stravina Holdings, Inc.
|
|
|
—
|
|
|
|
(19
|
)
|
|
|
(1
|
)
|
|
|
(19
|
)
|
|
American Decorative Surfaces, International, Inc.
|
|
|
—
|
|
|
|
—
|
|
|
|
1
|
|
|
|
(16
|
)
|
|
UAV Corporation
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(15
|
)
|
|
nSpired Holdings, Inc.
|
|
|
—
|
|
|
|
(14
|
)
|
|
|
—
|
|
|
|
(14
|
)
|
|
Halex Holdings, Inc.
|
|
|
—
|
|
|
|
(11
|
)
|
|
|
—
|
|
|
|
(11
|
)
|
|
Other
|
|
|
(6
|
)
|
|
|
(22
|
)
|
|
|
(23
|
)
|
|
|
(22
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total gross realized portfolio losses
|
|
|
(28
|
)
|
|
|
(102
|
)
|
|
|
(66
|
)
|
|
|
(133
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net realized portfolio gains
|
|
|
70
|
|
|
|
46
|
|
|
|
157
|
|
|
|
107
|
|
|
Taxes on realized gains
|
|
|
(4
|
)
|
|
|
—
|
|
|
|
(4
|
)
|
|
|
—
|
|
|
Interest rate derivative periodic interest settlements, net
|
|
|
6
|
|
|
|
4
|
|
|
|
10
|
|
|
|
5
|
|
|
Interest rate derivative termination settlements, net
|
|
|
(1
|
)
|
|
|
2
|
|
|
|
7
|
|
|
|
6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net realized gains
|
|
$
|
71
|
|
|
$
|
52
|
|
|
$
|
170
|
|
|
$
|
118
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In the second quarter
of 2007, a newly formed holding company, EAG Limited, closed on an initial public offering and began trading on the London Stock Exchange. As part of the offering, we sold all our shares in our portfolio company, EAG Acquisition, LLC, for proceeds
of $55 million and received full repayment of our $104 million senior and subordinated debt investment. We realized a total gain of $50 million offset by a reversal of unrealized appreciation of $26 million.
Our portfolio company ACSAB, LLC (“ACSAB”) held an investment in
ASAlliances Biofuels, LLC (“ASAlliances”). During the third quarter of 2007, ASAlliances was sold to VeraSun Energy Corporation (“VeraSun”) (NYSE: VSE) for cash and stock consideration. ACSAB distributed to us our share of its
sale proceeds, after tax, consisting of cash, stock of VeraSun and an escrow that holds additional stock of VeraSun with a total value of $73 million. The value of the VeraSun stock was $32 million and the expected proceeds of the escrow are $12
million. As part of the sale transaction, we also received full repayment of our $48 million
72
subordinated debt investment in ASAlliances. We recorded a total realized gain on the transaction of $43 million offset by a reversal of unrealized
appreciation of $55 million.
In the third quarter of 2007, we
received full repayment of our remaining $29 million senior and subordinated debt investments in SAV Holdings, Inc. and sold all of our equity interests for $66 million in proceeds realizing a total gain of $43 million offset by a reversal of
unrealized appreciation of $49 million. The gain that we recognized included escrowed proceeds that we expect to receive of $6 million.
In the second quarter of 2007, we received full repayment of our remaining $18 million senior debt investment in The Hygenic Corporation and sold all of
our equity interests for $22 million in proceeds realizing a total gain of $22 million offset by a reversal of unrealized appreciation of $22 million. The gain that we recognized included escrowed proceeds that we expect to receive of $1 million.
In the third quarter of 2007, we sold our investments in 121
subordinated tranches of bonds in 22 CMBS trusts to ACAS CRE CDO, a new commercial real estate collateralized debt obligation trust. Our cost basis in the CMBS bonds sold to ACAS CRE CDO was $642 million with a principal balance of $1.2 billion.
Third party investors in ACAS CRE CDO purchased AAA through A- bonds for a total purchase price of $411 million with a principal balance of $412 million. We purchased investment grade and non-investment grade notes and preferred shares of ACAS CRE
CDO for a total purchase price of $215 million with a principal balance of $763 million. In accordance with SFAS 140, the securities that we purchased are considered to be beneficial interests in the sold CMBS bonds that are retained by us. The
beneficial interests that continue to be held by us were measured at the date of transfer by allocating the previous carrying amount of the sold CMBS bonds between the ACAS CRE CDO notes sold to third parties and the ACAS CRE CDO notes and preferred
shares that we continue to hold based on their relative fair values. American Capital CRE Management, LLC, a wholly-owned subsidiary of American Capital, LLC, serves as the collateral manager for ACAS CRE CDO in exchange for an annual senior
management fee of 7.5 basis points and a subordinate fee of 7.5 basis points. In accordance with SFAS No. 140, the fair value of the collateral management agreement estimated to be $2 million was included as additional sale proceeds and treated as
being contributed to American Capital, LLC increasing our cost basis in that portfolio investment. We recorded a net realized loss of $22 million in the third quarter of 2007 related to this transaction offset by a reversal of unrealized
depreciation of $17 million.
In the second quarter of 2007,
the operating assets of Logex Corporation were sold pursuant to an asset purchase and sale agreement. We received cash proceeds from the sale of the operating assets as partial payment on our subordinated debt investments and expect to receive
additional payments on our subordinated debt investments from sale proceeds held in escrow. We deemed our equity investments and subordinated debt investments that will not be repaid with any of the sale proceeds held in escrow, as worthless and
wrote off the securities realizing a loss of $21 million offset by a reversal of unrealized depreciation of $21 million.
We record the accrual of the periodic interest settlements of interest rate swaps in net unrealized appreciation (depreciation) of investments and
subsequently record the amount as a realized gain (loss) on investments on the interest settlement date. Cash payments received or paid for the termination of an interest rate derivative agreement is recorded as a realized gain or loss upon
termination. Included in our $7 million of net realized gains from interest rate derivative termination settlements for the nine months ended September 30, 2007 were gains from terminated interest rate derivative swap agreements in the second
quarter of 2007 of $8 million that were the result of the sale of CMBS bonds sold to ACAS CRE CDO in the third quarter of 2007.
73
Unrealized Appreciation (Depreciation) of Investments
The net unrealized appreciation (depreciation) of investments is based on
valuations approved by our Board of Directors. The following table itemizes the change in net unrealized appreciation (depreciation) of investments for the three and nine months ended September 30, 2007 and 2006 (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Companies
|
|
Three Months Ended
September 30, 2007
|
|
|
Number of
Companies
|
|
Three Months Ended
September 30, 2006
|
|
|
Gross unrealized appreciation of portfolio company investments
|
|
39
|
|
$
|
172
|
|
|
36
|
|
$
|
135
|
|
|
Gross unrealized depreciation of portfolio company investments
|
|
47
|
|
|
(285
|
)
|
|
28
|
|
|
(123
|
)
|
|
Reversal of prior period unrealized appreciation upon a realization
|
|
|
|
|
(84
|
)
|
|
|
|
|
(15
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net unrealized depreciation of portfolio company investments
|
|
|
|
|
(197
|
)
|
|
|
|
|
(3
|
)
|
|
Foreign currency translation
|
|
|
|
|
49
|
|
|
|
|
|
15
|
|
|
Derivative agreements
|
|
|
|
|
(55
|
)
|
|
|
|
|
(42
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net unrealized depreciation of investments
|
|
|
|
$
|
(203
|
)
|
|
|
|
$
|
(30
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Companies
|
|
Nine Months Ended
September 30, 2007
|
|
|
Number of
Companies
|
|
Nine Months Ended
September 30, 2006
|
|
|
Gross unrealized appreciation of portfolio company investments
|
|
83
|
|
$
|
956
|
|
|
55
|
|
$
|
505
|
|
|
Gross unrealized depreciation of portfolio company investments
|
|
68
|
|
|
(531
|
)
|
|
48
|
|
|
(292
|
)
|
|
Reversal of prior period unrealized appreciation upon a realization
|
|
|
|
|
(108
|
)
|
|
|
|
|
(65
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net unrealized appreciation of portfolio company investments
|
|
|
|
|
317
|
|
|
|
|
|
148
|
|
|
Foreign currency translation
|
|
|
|
|
61
|
|
|
|
|
|
14
|
|
|
Derivative agreements
|
|
|
|
|
(25
|
)
|
|
|
|
|
(9
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net unrealized appreciation of investments
|
|
|
|
$
|
353
|
|
|
|
|
$
|
153
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As discussed in Note
12 to our interim consolidated financial statements, ECFS, a wholly-owned operating subsidiary, was deconsolidated prospectively during the second quarter of 2007. In addition, during the second quarter of 2007, we formed a parent holding company,
American Capital, LLC, to own all of our wholly-owned third-party fund managers and transferred the ownership of ECFS and our other two wholly-owned third-party alternative asset fund managers that were portfolio company investments, ACEM and ACAM,
to American Capital, LLC. American Capital, LLC is accounted for as a portfolio company investment and carried at a fair value of $562 million on our balance sheet at September 30, 2007. During the second quarter of 2007, we recognized $493
million of unrealized appreciation on our investment in American Capital, LLC, which was primarily driven by the appreciation associated with ECFS which was accounted for at fair value for the first time in the second quarter. The appreciation
associated with ECFS recorded in the second quarter was developed over the period since its inception in the fourth quarter of 2005. During the three months ended September 30, 2007, we did not record any unrealized appreciation or depreciation
on our investment in American Capital, LLC.
We own a
controlling 66% ownership interest in the ordinary shares of ECAS, which is traded on the main market of the London Stock Exchange under the ticker symbol “ECAS.” ECAS values its investments at fair value and therefore its net asset value
reflects the fair value of its investments. As of September 30, 2007, the closing trading price of ECAS was €8.66 per ordinary share (€619 million based on our 66% ownership interest), which was below ECAS’ net asset value per share
of €9.71 (€694 million based on our 66% ownership interest). We valued our controlling interest in ECAS based on the closing trading price plus a control premium for a fair value of €10.07 per share (€720 million based on our 66%
ownership interest). A purchaser of a controlling
74
interest in ECAS would have the ability to obtain control of the board of directors of ECAS. The board of directors of ECAS has the ability to control all
significant decisions of ECAS including, among others, the right to (i) sell investments, (ii) direct the investment manager’s investment policies, (iii) provide direction of the management of the fund, (iv) terminate (with shareholder
approval) and hire an investment manager and (v) declare dividends. The ability to maximize the net asset value as a controlling shareholder was a significant factor in determining the control premium to apply to the closing price of ECAS in
determining its fair value. We also considered that we have a controlling interest in the investment manager, through our controlling interest in American Capital, LLC, in addition to our controlling interest in ECAS and that the combined individual
fair values of these two controlled portfolio companies approximated the fair value of the entities on a combined basis.
Prior to the impact of foreign currency translation, we recorded unrealized depreciation on our investment in ECAS of $49 million during the third quarter
of 2007 due primarily to a decrease in the closing trading price of ECAS on September 30, 2007 from that on June 30, 2007. In addition, we recorded unrealized appreciation of $51 million during the third quarter of 2007 related to foreign
currency appreciation on our investment in ECAS as the Euro has appreciated against the U.S. dollar. As a result, we recorded a net unrealized appreciation of $2 million in the third quarter of 2007 on our investment in ECAS after the impact of the
foreign currency appreciation.
We have a limited amount of
investments in portfolio companies, including ECAS, for which the investment is denominated in a foreign currency, primarily the Euro. We also have other assets and liabilities denominated in foreign currencies. Fluctuations in exchange rates
therefore impact our financial condition and results of operations, as reported in U.S. dollars. During the three and nine months ended September 30, 2007, the foreign currency translation adjustment recorded in our interim consolidated
statements of operations as unrealized appreciation was $49 million and $61 million, respectively, primarily as a result of the Euro appreciating against the U.S. dollar. As discussed above, included in these amounts is unrealized appreciation of
$51 million and $64 million during the three and nine months ended September 30, 2007, respectively, of foreign currency appreciation attributable to our investment in ECAS.
The fair value of the derivative agreements represents the estimated net present value of the future cash flows using a
forward interest rate yield curve in effect at the end of the period. A negative fair value would represent an amount we would have to pay the other party and a positive fair value would represent an amount we would receive from the other party to
terminate the agreement. They appreciate or depreciate based on relative market interest rates and their remaining term to maturity. The change in fair value is recorded as unrealized appreciation (depreciation) of derivative agreements. The
decrease in the fair value of our derivative agreements in the three month period ended September 30, 2007 is primarily due to a decrease in the forward interest rate yield curve during the quarter.
Our Board of Directors is responsible for determining the fair value of our
portfolio investments on a quarterly basis. In that regard, the board retains Houlihan Lokey Howard & Zukin Financial Advisors, Inc. (“Houlihan Lokey”) to assist it by having Houlihan Lokey regularly review a designated selection
of our fair value determinations. Houlihan Lokey is a leading valuation firm in the U.S., engaged in approximately 1,000 valuation assignments per year for clients worldwide. Each quarter, Houlihan Lokey reviews our determination of the fair value
of American Capital’s portfolio company investments that have been portfolio companies for at least one year and that have a fair value in excess of $25 million.
For the third quarter of 2007, Houlihan Lokey reviewed our valuations of 23 portfolio companies having an aggregate $2.6
billion in fair value as reflected in our interim consolidated financial statements as of September 30, 2007. Over the last four quarters, Houlihan Lokey has reviewed 77 portfolio companies totaling $6.1 billion in fair value as of their
respective valuation dates. In addition, Houlihan Lokey representatives attend our quarterly valuation meetings and provide periodic reports and recommendations to our Audit and Compliance Committee of the Board of Directors. For those portfolio
company investments that Houlihan Lokey has reviewed using the scope of review set forth by our Board of Directors, our Board of Directors has made a fair value determination that is within the aggregate range of fair value for such investments as
determined by Houlihan Lokey. Houlihan Lokey has been engaged, or may in the future be engaged, directly by us or our portfolio companies to provide investment banking services.
75
Return on Shareholders’ Equity
The following table summarizes our returns on shareholders’ equity for the latest twelve months (“LTM”) ended
September 30, 2007 and 2006 and for the three months ended September 30, 2007 and 2006 annualized:
|
|
|
|
|
|
|
|
|
|
|
|
|
Period ended
September 30
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
|
|
LTM net operating income return on average equity at cost
|
|
11.1
|
%
|
|
12.5
|
%
|
|
|
|
LTM realized earnings return on average equity at cost
|
|
15.8
|
%
|
|
16.3
|
%
|
|
|
|
LTM earnings return on average equity
|
|
24.0
|
%
|
|
20.2
|
%
|
|
|
|
Current quarter net operating income return on average equity at cost annualized
|
|
10.6
|
%
|
|
11.7
|
%
|
|
|
|
Current quarter realized earnings return on average equity at cost annualized
|
|
15.5
|
%
|
|
17.1
|
%
|
|
|
|
Current quarter net earnings return on average equity annualized
|
|
1.3
|
%
|
|
13.4
|
%
|
|
|
Financial Condition, Liquidity and
Capital Resources
As of September 30, 2007, we had
$92 million in cash and cash equivalents and $124 million of restricted cash. Our restricted cash consists primarily of collections of interest and principal payments on assets that are securitized. In accordance with the terms of the related
securitized debt agreements, those funds are generally distributed each quarter to pay interest and principal on the securitized debt. As of September 30, 2007, we had $1,654 million of availability under our revolving credit facilities
(excluding standby letters of credit of $22 million) and $315 million under our forward equity sale agreements assuming the forward prices as of September 30, 2007. During the third quarter of 2007, we principally funded investments using draws
on the revolving credit facilities draws under outstanding forward sale agreements and equity offerings, as well as proceeds from syndications of senior loans, repayments of loans and sales of equity investments.
The recent volatility in the global credit markets are directly affecting a
wide range of industry sectors including, but not limited to, asset management (including private equity, mutual funds and hedge funds), banking and capital markets, insurance and real estate companies. The volatility in the debt and equity markets
also might continue to adversely affect companies in other industry sections, particularly with respect to valuation of investment portfolios and tighter lending standards possibly curbing the flow of capital. However, as mentioned above, as of
September 30, 2007 we had $1,654 million of availability under our revolving credit facilities (excluding standby letters of credit of $22 million) and $315 million under our forward equity sale agreements assuming the forward prices as of September
30, 2007. Although we cannot predict the market conditions going forward, we believe that the financing resources currently available to us as well as our continuing ability to generate operating cash flows and sell existing portfolio investments
will provide us with adequate liquidity to execute our business strategy. Our ability to draw on our revolving credit facilities can be reduced under certain circumstances, including a reduction in our net worth below specified minimum thresholds, a
decrease in our corporate unsecured debt rating below a specified level and a decrease in our asset coverage ratios below a specified threshold.
As a RIC, we are required to distribute annually 90% or more of our investment company taxable income. We provide shareholders with the option of
reinvesting their dividends in American Capital. In August 2004, we amended our dividend reinvestment plan, or DRIP, to provide a 5% discount on shares purchased through the reinvested dividends, effective for dividends paid in December 2004 and
thereafter, subject to terms of the plan. In March 2007, we amended our dividend reinvestment plan to reduce the discount to the market price on shares purchased through reinvested dividends from 5% to 2% beginning with our second quarter 2007
dividend.
We are currently in compliance with the requirements
to qualify as a regulated investment company under Subchapter M of the Internal Revenue Code of 1986, as amended, and to qualify as a business development company under the Investment Company Act of 1940, as amended. As a business development
company, our asset coverage, as defined in the Investment Company Act of 1940, must be at least 200% after each issuance of senior securities. As of September 30, 2007 and December 31, 2006, our asset coverage was 244% and 211%,
respectively.
76
Equity Capital Raising Activities
For the nine months ended September 30, 2007 and 2006, we completed several public offerings of our common stock in
which shares were sold either directly by us or by forward purchasers in connection with forward sale agreements. The following table summarizes the total shares sold directly by us, including shares sold pursuant to underwriters’
over-allotment options and through forward sale agreements, and the proceeds we received, excluding issuance costs, for the public offerings of our common stock for the nine months ended September 30, 2007 and 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares Sold
|
|
Proceeds, Net of
Underwriters’ Discount
|
|
Average Price
|
|
September 2007 public offering
|
|
0.9
|
|
$
|
34
|
|
$
|
37.63
|
|
Issuances under June 2007 Forward Sale Agreements
|
|
2.9
|
|
|
126
|
|
|
43.16
|
|
June 2007 public offering
|
|
17.4
|
|
|
748
|
|
|
43.02
|
|
June 2007 direct offering
|
|
0.2
|
|
|
11
|
|
|
46.47
|
|
Issuances under March 2007 Forward Sale Agreements
|
|
6.0
|
|
|
259
|
|
|
43.17
|
|
Issuances under January 2007 Forward Sale Agreements
|
|
2.0
|
|
|
88
|
|
|
43.84
|
|
March 2007 public offering
|
|
4.4
|
|
|
187
|
|
|
43.03
|
|
January 2007 public offering
|
|
5.2
|
|
|
231
|
|
|
44.11
|
|
|
|
|
|
|
|
|
|
|
|
Total for the nine months ended September 30, 2007
|
|
39.0
|
|
$
|
1,684
|
|
$
|
43.14
|
|
|
|
|
|
|
|
|
|
|
|
July 2006 public offering
|
|
3.0
|
|
$
|
100
|
|
$
|
32.78
|
|
Issuance under April 2006 Forward Sale Agreements
|
|
4.0
|
|
|
133
|
|
|
33.38
|
|
April 2006 public offering
|
|
9.8
|
|
|
333
|
|
|
33.99
|
|
February 2006 public offering
|
|
1.0
|
|
|
36
|
|
|
36.10
|
|
Issuance under January 2006 Forward Sale Agreements
|
|
4.0
|
|
|
137
|
|
|
34.31
|
|
January 2006 public offering
|
|
0.6
|
|
|
21
|
|
|
34.84
|
|
Issuances under November 2005 Forward Sale Agreements
|
|
3.5
|
|
|
125
|
|
|
35.66
|
|
Issuances under September 2005 Forward Sale Agreements
|
|
0.8
|
|
|
26
|
|
|
34.82
|
|
|
|
|
|
|
|
|
|
|
|
Total for the nine months ended September 30, 2006
|
|
26.7
|
|
$
|
911
|
|
$
|
34.15
|
|
|
|
|
|
|
|
|
|
|
In September 2007, we
entered into forward sale agreements (the “September 2007 Forward Sale Agreements”) to sell 6.0 million shares of common stock. In connection with the September 2007 Forward Sale Agreements, the counterparties, or forward purchasers,
to the agreements, borrowed 6.0 million shares of common stock from third party market sources and then sold the shares to the public. Pursuant to the September 2007 Forward Sale Agreements, we must sell to the forward purchasers
6.0 million shares of our common stock generally at such times as we elect over a one-year period. The September 2007 Forward Sale Agreements provide for settlement date or dates to be specified at our discretion within the duration of the
September 2007 Forward Sale Agreements through termination in September 2008. On a settlement date, we will issue shares of our common stock to the applicable forward purchaser at the then applicable forward sale price. The forward sale price was
initially $37.63 per share, which was the public offering price of shares of our common stock less the underwriting discount. The September 2007 Forward Sale Agreements provide that the initial forward sale price per share will be subject to daily
adjustment based on a floating interest factor equal to the federal funds rate, less a spread, and will be subject to a decrease by $0.96, $0.98, $1.00 and $1.02 on each of December 7, 2007, March 7, 2008, June 13, 2008 and
September 12, 2008, respectively. The forward sale price will also be subject to decrease if the cost to the forward purchasers of borrowing our common stock exceeds a specified amount. The September 2007 Forward Sale Agreements are considered
equity instruments that are initially measured at a fair value of zero and reported in permanent equity. As of September 30, 2007, there were 6.0 million shares available under the September 2007 Forward Sale Agreements at a forward price
of $37.71.
In June 2007, we entered into forward sale
agreements (the “June 2007 Forward Sale Agreements”) to sell 5.0 million shares of common stock. In connection with the June 2007 Forward Sale Agreements, the
77
counterparties, or forward purchasers, to the agreements, borrowed 5.0 million shares of common stock from third-party market sources and then sold the
shares to the public. Pursuant to the June 2007 Forward Sale Agreements, we must sell to the forward purchasers 5.0 million shares of our common stock generally at such times as we elect over a one-year period. The June 2007 Forward Sale
Agreements provide for settlement date or dates to be specified at our discretion within the duration of the June 2007 Forward Sale Agreements through termination in June 2008. On a settlement date, we will issue shares of our common stock to the
applicable forward purchaser at the then applicable forward sale price. The forward sale price was initially $43.02 per share, which was the public offering price of shares of our common stock less the underwriting discount. The June 2007 Forward
Sale Agreements provide that the initial forward sale price per share will be subject to daily adjustment based on a floating interest factor equal to the federal funds rate, less a spread, and will be subject to a decrease by $0.92, $0.96, $0.98,
and $1.00 on each of September 7, 2007, December 7, 2007, March 7, 2008 and June 13, 2008 respectively. The forward sale price will also be subject to decrease if the cost to the forward purchasers of borrowing our common stock
exceeds a specified amount. The June 2007 Forward Sale Agreements are considered equity instruments that are initially measured at a fair value of zero and reported in permanent equity. As of September 30, 2007, there were 2.1 million
shares available under the June 2007 Forward Sale Agreements at a forward price of $42.66.
As of September 30, 2007, all other forward sale agreements had been fully settled.
Debt Capital Raising Activities
Our debt obligations consisted of the following (in millions):
|
|
|
|
|
|
|
|
|
|
|
September 30,
2007
|
|
December 31,
2006
|
|
Secured revolving credit facility, $1,250 million commitment
|
|
$
|
728
|
|
$
|
669
|
|
Unsecured revolving credit facility, $1,565 million commitment
|
|
|
433
|
|
|
893
|
|
Unsecured debt due August 2010
|
|
|
126
|
|
|
126
|
|
Unsecured debt due February 2011
|
|
|
26
|
|
|
24
|
|
Unsecured debt due through September 2011
|
|
|
167
|
|
|
167
|
|
Unsecured debt due October 2012
|
|
|
547
|
|
|
—
|
|
Unsecured debt due October 2020
|
|
|
75
|
|
|
75
|
|
TRS Facility
|
|
|
—
|
|
|
296
|
|
ACAS Business Loan Trust 2004-1 asset securitization
|
|
|
349
|
|
|
410
|
|
ACAS Business Loan Trust 2005-1 asset securitization
|
|
|
830
|
|
|
830
|
|
ACAS Business Loan Trust 2006-1 asset securitization
|
|
|
436
|
|
|
436
|
|
ACAS Business Loan Trust 2007-1 asset securitization
|
|
|
492
|
|
|
—
|
|
ACAS Business Loan Trust 2007-2 asset securitization
|
|
|
338
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
4,547
|
|
$
|
3,926
|
|
|
|
|
|
|
|
|
The daily weighted
average debt balance for the three months ended September 30, 2007 and 2006 was $5,016 million and $3,413 million, respectively. The daily weighted average debt balance for the nine months ended September 30, 2007 and 2006 was $4,542 and
$2,846, respectively. The weighted average interest rate on all of our borrowings, including amortization of deferred financing costs, was 6.3% and 6.5% for the three months ended September 30, 2007 and 2006, respectively. The weighted average
interest rate on all of our borrowings, including amortization of deferred financing costs, for the nine months ended September 30, 2007 and 2006 was 6.3% and 6.2%, respectively. We are currently in compliance with all of our debt covenants.
Secured Revolving Credit Facility
In October 2007, we amended the secured revolving credit facility to extend
the facility’s termination date to October 2008 and increase the lenders’ commitment thereunder to $1,300 million. As amended, our ability to
78
make draws under the facility expires one business day before the termination date. If the facility is not extended before the termination date, any
principal amounts then outstanding will be amortized over a 24-month period from the termination date to October 2010.
Public Debt Offering
In July 2007, we completed a public offering of $550 million of senior unsecured notes for net proceeds of $547 million, net of underwriters’
discounts. The notes bear interest at a fixed rate of 6.85% and mature in August 2012. Interest payments are due semiannually on February 1 and August 1 and all principal is due on maturity. The notes were rated Baa2, BBB and BBB by
Moody’s Investor Services, Standard & Poor’s Ratings Services and Fitch Ratings, respectively. If the ratings of the notes from at least two of the rating agencies are decreased, the interest rate on the notes would increase by 25
basis points for each rating decrease up to a maximum of 100 basis points. If at least two of the rating agencies then subsequently increase the ratings of the notes, the interest rate on the notes would decrease by 25 basis points for each rating
increase not to fall below the initial interest rate of 6.85%. If at least two rating agencies cease to provide ratings for the notes, any increase or decrease necessitated by a reduction or increase in the rating by the remaining rating agency
shall be twice the percentages set forth above. The indenture contains various covenants, including a covenant that we will maintain an asset coverage, as defined in the 1940 Act, of at least 200%. The notes may be redeemed by us in whole or in
part, together with an interest premium, as stipulated in the note agreement.
Unsecured Revolving Facility
In May 2007, we replaced our $900 million unsecured revolving credit facility with a new $1,565 million unsecured revolving credit facility with a syndicate of lenders. The facility may be expanded through new or
additional commitments up to $1,815 million in accordance with the terms and conditions set forth in the related agreement. The ability to make draws under the revolving facility expires in May 2012. Interest on borrowings under the facility is
charged at either (i) LIBOR plus the applicable percentage at such time, currently 90 basis points, or (ii) the greater of the prime rate in effect on such day and the federal funds effective rate in effect on such day plus 50 basis
points. We are also charged an unused commitment fee of 0.125% per annum. The agreement contains various covenants, including limits on annual corporate capital expenditures, maintaining an unsecured debt rating equal or greater than BB, a minimum
net worth and asset coverage ratios.
Total Return Swap
Facility
In March 2007, our total return swap
facility (the “TRS Facility”) with Wachovia Bank, N.A. was temporarily increased from $350 million to $500 million through May 30, 2007. On May 30, 2007, the temporary increase to $500 million was extended to the earlier of the
closing of the ACAS CRE CDO 2007-1, Ltd. transaction or August 31, 2007. In July 2007, as a result of the closing of the ACAS CRE CDO 2007-1, Ltd. transaction (See Note 14) the TRS Facility was reduced to $300 million.
Securitization
In August 2007, we completed a $500 million asset securitization. In
connection with the transaction, ACAS Business Loan Trust 2007-2 (“BLT 2007-2”), an indirect consolidated subsidiary, issued $300.5 million Class A notes, $37.5 million Class B notes and $162 million of Class C through Class F notes
(collectively, the “2007-2 Notes”). The Class A notes and Class B notes were sold to institutional investors and all of the Class C through Class F notes were retained by us. The 2007-2 Notes are secured by loans originated or
acquired by us and sold to our wholly-owned consolidated subsidiary, BLT 2007-2. Through February 2008, BLT 2007-2 may also generally use principal collections from the underlying loan pool to purchase additional loans to secure the 2007-2
Notes. After such time, principal payments on the 2007-2 Notes will generally be applied pro rata to each class of 2007-2 Notes outstanding until the aggregate outstanding principal balance of the loan pool is less than $250 million or the
occurrence of certain other events. Payments will then be applied sequentially to the Class A notes, the Class B notes, the Class C notes, the Class D notes, the Class E notes and the Class F notes. Subject to continuing compliance with certain
conditions, we will remain as servicer of the loans. The Class A notes have
79
an interest rate of three-month LIBOR plus 40 basis points, the Class B notes have an interest rate of three-month LIBOR plus 100 basis points, the Class C
notes have an interest rate of three-month LIBOR plus 125 basis points, the Class D notes have an interest rate of three-month LIBOR plus 300 basis points and the Class E and Class F notes retained by us do not have an interest rate. The loans are
secured by loans from our portfolio companies with a principal balance of approximately $500 million. The 2007-2 Notes contain customary default provisions and mature in November 2019 unless redeemed or repaid prior to such date.
In April 2007, we completed a $600 million asset securitization. In
connection with the transaction, ACAS Business Loan Trust 2007-1 (“BLT 2007-1”), an indirect consolidated subsidiary, issued $351 million Class A notes, $45 million Class B notes, $81 million Class C notes, $45 million Class D notes
and $78 million Class E notes (collectively, the “2007-1 Notes”). The Class A notes, Class B notes, Class C notes and $15 million of the Class D notes were sold to institutional investors and $30 million of the Class D notes and all
the Class E notes were retained by us. The 2007-1 Notes are secured by loans originated or acquired by us and sold to our wholly-owned consolidated subsidiary, BLT 2007-1. Through November 2007, BLT 2007-1 may also generally use principal
collections from the underlying loan pool to purchase additional loans to secure the 2007-1 Notes. After such time, principal payments on the 2007-1 Notes will generally be applied pro rata to each class of 2007-1 Notes outstanding until the
aggregate outstanding principal balance of the loan pool is less than $300 million or the occurrence of certain other events. Payments will then be applied sequentially to the Class A notes, the Class B notes, the Class C notes, the Class D
notes and the Class E notes. Subject to continuing compliance with certain conditions, we will remain as servicer of the loans. The Class A notes have an interest rate of three-month LIBOR plus 14 basis points, the Class B notes have an
interest rate of three-month LIBOR plus 31 basis points, the Class C notes have an interest rate of three-month LIBOR plus 85 basis points, the Class D notes have an interest rate of three-month LIBOR plus 185 basis points and the Class E notes
retained by us do not have an interest rate. The loans are secured by loans and assets from our portfolio companies with a principal balance of approximately $600 million. The 2007-1 Notes contain customary default provisions and mature in August
2019 unless redeemed or repaid prior to such date.
Portfolio Credit Quality
We stop accruing interest on our investments when it is
determined that interest is no longer collectible. Our valuation analysis serves as a critical piece of data in this determination. A significant change in the portfolio company valuation assigned by us could have an effect on the amount of our
loans on non-accrual status. As of September 30, 2007, loans on non-accrual status for 21 portfolio companies were $309 million, calculated as the cost plus unamortized original issue discount (“OID”), and had a fair value of $85
million. These loans include a total of $242 million with PIK interest features. As of December 31, 2006, loans on non-accrual status for 14 portfolio companies were $183 million, calculated as the cost plus unamortized OID, and had a fair
value of $54 million.
As of September 30, 2007 and
December 31, 2006, loans on accrual status, past due loans and loans on non-accrual status were as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Portfolio
Companies
|
|
September 30,
2007
|
|
|
Number of
Portfolio
Companies
|
|
December 31,
2006
|
|
|
Current
|
|
131
|
|
$
|
5,479
|
|
|
118
|
|
$
|
4,623
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One Month Past Due
|
|
|
|
|
—
|
|
|
|
|
|
—
|
|
|
Two Months Past Due
|
|
|
|
|
10
|
|
|
|
|
|
—
|
|
|
Three Months Past Due
|
|
|
|
|
—
|
|
|
|
|
|
—
|
|
|
Greater than Three Months Past Due
|
|
|
|
|
—
|
|
|
|
|
|
12
|
|
|
Loans on Non-accrual Status
|
|
|
|
|
309
|
|
|
|
|
|
183
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal
|
|
21
|
|
|
319
|
|
|
14
|
|
|
195
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
152
|
|
$
|
5,798
|
|
|
132
|
|
$
|
4,818
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Past Due and Non-accuring Loans as a Percent of Total Loans
|
|
|
|
|
5.5
|
%
|
|
|
|
|
4.0
|
%
|
80
The loan balances above reflect our cost of the debt, excluding CMBS and CDO securities, plus unamortized
OID. We believe that debt service collection is probable for our loans that are past due.
Credit Statistics
We monitor several key credit statistics that provide information about credit quality and portfolio performance. These key statistics include:
|
|
•
|
|
Debt to EBITDA Ratio—the sum of all debt with equal or senior security rights to our debt investments divided by the total adjusted earnings before interest,
taxes, depreciation and amortization, or EBITDA, of the most recent twelve months or, when appropriate, the forecasted twelve months.
|
|
|
•
|
|
Interest Coverage Ratio—EBITDA divided by the total scheduled cash interest payments required to have been made by the portfolio company during the most recent
twelve-month period, or when appropriate, the forecasted twelve months.
|
|
|
•
|
|
Debt Service Coverage Ratio—EBITDA divided by the total scheduled principal amortization and the total scheduled cash interest payments required to have been
made during the most recent twelve-month period, or when appropriate, the forecasted twelve months.
|
We generally require our portfolio companies to provide annual audited and monthly or quarterly unaudited financial statements. Using these financial
statements, we calculate the statistics described above. Buyout and mezzanine funds typically adjust EBITDA due to the nature of change of control transactions. Such adjustments are intended to normalize and restate EBITDA to reflect the pro forma
results of a company in a change of control transaction. For purposes of analyzing the financial performance of our portfolio companies, we make certain adjustments to EBITDA to reflect the pro forma results of a company consistent with a change of
control transaction in addition to adjusting EBITDA for significant non-recurring, unusual or infrequent items. Adjustments to EBITDA may include anticipated cost savings resulting from a merger or restructuring, costs related to new product
development, compensation to previous owners, non-recurring revenues or expenses, and other acquisition or restructuring related items.
81
We track our portfolio investments on a static pool basis, including based on the statistics described
above. A static pool consists of the investments made during a given year. The static pool classification of a portfolio company is based on the year the initial investment was made. Subsequent add-on investments are included in the static pool year
of the original investment. The Pre-1999 static pool consists of the investments made from the time of our IPO through the year ended December 31, 1998. The following table contains a summary of portfolio statistics as of and for the year ended
September 30, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Static Pool
|
|
|
Portfolio Statistics(1)
($ in millions, unaudited):
|
|
Pre-1999
|
|
|
1999
|
|
|
2000
|
|
|
2001
|
|
|
2002
|
|
|
2003
|
|
|
2004
|
|
|
2005
|
|
|
2006
|
|
|
2007
|
|
|
Pre-1999
-2007
Aggregate
|
|
|
2002
-2007
Aggregate
|
|
|
Internal Rate of Return – All Investments(2)
|
|
|
7.5
|
%
|
|
|
9.0
|
%
|
|
|
7.5
|
%
|
|
|
19.1
|
%
|
|
|
10.0
|
%
|
|
|
22.0
|
%
|
|
|
17.5
|
%
|
|
|
30.3
|
%
|
|
|
19.0
|
%
|
|
|
12.6
|
%
|
|
|
17.5
|
%
|
|
|
20.5
|
%
|
|
Internal Rate of Return – Equity Investments(2)(10)
|
|
|
23.6
|
%
|
|
|
(23.9
|
)%
|
|
|
10.0
|
%
|
|
|
46.8
|
%
|
|
|
15.4
|
%
|
|
|
32.5
|
%
|
|
|
29.2
|
%
|
|
|
53.3
|
%
|
|
|
31.0
|
%
|
|
|
34.5
|
%
|
|
|
33.2
|
%
|
|
|
37.4
|
%
|
|
Internal Rate of Return – Equity Investments(2)(10)(11)
|
|
|
23.6
|
%
|
|
|
(23.9
|
)%
|
|
|
10.0
|
%
|
|
|
46.8
|
%
|
|
|
15.4
|
%
|
|
|
32.5
|
%
|
|
|
29.2
|
%
|
|
|
29.7
|
%
|
|
|
31.0
|
%
|
|
|
34.5
|
%
|
|
|
26.3
|
%
|
|
|
28.8
|
%
|
|
Original Investments and Commitments
|
|
$
|
393
|
|
|
$
|
380
|
|
|
$
|
284
|
|
|
$
|
372
|
|
|
$
|
957
|
|
|
$
|
1,432
|
|
|
$
|
2,257
|
|
|
$
|
3,845
|
|
|
$
|
4,780
|
|
|
$
|
4,829
|
|
|
$
|
19,529
|
|
|
$
|
18,100
|
|
|
Total Exits and Prepayments of Original Investments
|
|
$
|
284
|
|
|
$
|
269
|
|
|
$
|
284
|
|
|
$
|
286
|
|
|
$
|
602
|
|
|
$
|
1,023
|
|
|
$
|
1,340
|
|
|
$
|
1,454
|
|
|
$
|
1,894
|
|
|
$
|
704
|
|
|
$
|
8,140
|
|
|
$
|
7,017
|
|
|
Total Interest, Dividends and Fees Collected
|
|
$
|
153
|
|
|
$
|
145
|
|
|
$
|
105
|
|
|
$
|
148
|
|
|
$
|
281
|
|
|
$
|
336
|
|
|
$
|
455
|
|
|
$
|
585
|
|
|
$
|
450
|
|
|
$
|
165
|
|
|
$
|
2,823
|
|
|
$
|
2,272
|
|
|
Total Net Realized (Loss) Gain on Investments
|
|
$
|
(32
|
)
|
|
$
|
(44
|
)
|
|
$
|
(40
|
)
|
|
$
|
25
|
|
|
$
|
(13
|
)
|
|
$
|
134
|
|
|
$
|
121
|
|
|
$
|
148
|
|
|
$
|
81
|
|
|
$
|
(8
|
)
|
|
$
|
372
|
|
|
$
|
463
|
|
|
Current Cost of Investments
|
|
$
|
112
|
|
|
$
|
38
|
|
|
$
|
—
|
|
|
$
|
56
|
|
|
$
|
324
|
|
|
$
|
364
|
|
|
$
|
895
|
|
|
$
|
2,313
|
|
|
$
|
2,639
|
|
|
$
|
3,567
|
|
|
$
|
10,308
|
|
|
$
|
10,102
|
|
|
Current Fair Value of Investments
|
|
$
|
65
|
|
|
$
|
21
|
|
|
$
|
—
|
|
|
$
|
20
|
|
|
$
|
252
|
|
|
$
|
418
|
|
|
$
|
877
|
|
|
$
|
3,055
|
|
|
$
|
2,729
|
|
|
$
|
3,529
|
|
|
$
|
10,966
|
|
|
$
|
10,860
|
|
|
Net Unrealized Appreciation/(Depreciation)
|
|
$
|
(47
|
)
|
|
$
|
(17
|
)
|
|
$
|
—
|
|
|
$
|
(36
|
)
|
|
$
|
(72
|
)
|
|
$
|
54
|
|
|
$
|
(18
|
)
|
|
$
|
742
|
|
|
$
|
90
|
|
|
$
|
(38
|
)
|
|
$
|
658
|
|
|
$
|
758
|
|
|
Non-Accruing Loans at Face
|
|
$
|
47
|
|
|
$
|
12
|
|
|
$
|
—
|
|
|
$
|
15
|
|
|
$
|
52
|
|
|
$
|
29
|
|
|
$
|
46
|
|
|
$
|
89
|
|
|
$
|
19
|
|
|
$
|
—
|
|
|
$
|
309
|
|
|
$
|
235
|
|
|
Non-Accruing Loans at Fair Value
|
|
$
|
4
|
|
|
$
|
4
|
|
|
$
|
—
|
|
|
$
|
4
|
|
|
$
|
3
|
|
|
$
|
16
|
|
|
$
|
23
|
|
|
$
|
20
|
|
|
$
|
11
|
|
|
$
|
—
|
|
|
$
|
85
|
|
|
$
|
73
|
|
|
Equity Interest at Fair Value(9)
|
|
$
|
50
|
|
|
$
|
8
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
52
|
|
|
$
|
176
|
|
|
$
|
183
|
|
|
$
|
2,173
|
|
|
$
|
899
|
|
|
$
|
1,221
|
|
|
$
|
4,762
|
|
|
$
|
4,704
|
|
|
Debt to EBITDA(3)(4)(5)
|
|
|
NM
|
|
|
|
2.4
|
|
|
|
—
|
|
|
|
5.7
|
|
|
|
4.2
|
|
|
|
5.7
|
|
|
|
5.3
|
|
|
|
4.8
|
|
|
|
5.5
|
|
|
|
6.4
|
|
|
|
5.6
|
|
|
|
5.6
|
|
|
Interest Coverage(3)(5)
|
|
|
NM
|
|
|
|
2.0
|
|
|
|
—
|
|
|
|
2.1
|
|
|
|
2.1
|
|
|
|
1.6
|
|
|
|
1.7
|
|
|
|
2.3
|
|
|
|
2.0
|
|
|
|
2.0
|
|
|
|
2.0
|
|
|
|
2.0
|
|
|
Debt Service Coverage(3)(5)
|
|
|
NM
|
|
|
|
1.9
|
|
|
|
—
|
|
|
|
1.8
|
|
|
|
1.3
|
|
|
|
1.4
|
|
|
|
1.4
|
|
|
|
1.7
|
|
|
|
2.0
|
|
|
|
1.8
|
|
|
|
1.7
|
|
|
|
1.7
|
|
|
Average Age of Companies(5)
|
|
|
67 yrs
|
|
|
|
55 yrs
|
|
|
|
—
|
|
|
|
23 yrs
|
|
|
|
38 yrs
|
|
|
|
37 yrs
|
|
|
|
38 yrs
|
|
|
|
21 yrs
|
|
|
|
29 yrs
|
|
|
|
25 yrs
|
|
|
|
28 yrs
|
|
|
|
28 yrs
|
|
|
Ownership Percentage(9)
|
|
|
64
|
%
|
|
|
65
|
%
|
|
|
0
|
%
|
|
|
58
|
%
|
|
|
49
|
%
|
|
|
59
|
%
|
|
|
31
|
%
|
|
|
60
|
%
|
|
|
38
|
%
|
|
|
44
|
%
|
|
|
47
|
%
|
|
|
47
|
%
|
|
Average Sales(5)(6)
|
|
$
|
193
|
|
|
$
|
23
|
|
|
$
|
—
|
|
|
$
|
81
|
|
|
$
|
68
|
|
|
$
|
157
|
|
|
$
|
105
|
|
|
$
|
103
|
|
|
$
|
122
|
|
|
$
|
229
|
|
|
$
|
151
|
|
|
$
|
151
|
|
|
Average EBITDA(5)(7)
|
|
$
|
12
|
|
|
$
|
3
|
|
|
$
|
—
|
|
|
$
|
3
|
|
|
$
|
13
|
|
|
$
|
29
|
|
|
$
|
22
|
|
|
$
|
34
|
|
|
$
|
26
|
|
|
$
|
39
|
|
|
$
|
31
|
|
|
$
|
32
|
|
|
Average EBITDA Margin(5)
|
|
|
6.2
|
%
|
|
|
13.0
|
%
|
|
|
0
|
%
|
|
|
3.7
|
%
|
|
|
19.1
|
%
|
|
|
18.5
|
%
|
|
|
21.0
|
%
|
|
|
33.0
|
%
|
|
|
21.3
|
%
|
|
|
17.0
|
%
|
|
|
20.5
|
%
|
|
|
21.2
|
%
|
|
Total Sales(5)(6)
|
|
$
|
480
|
|
|
$
|
84
|
|
|
$
|
—
|
|
|
$
|
626
|
|
|
$
|
390
|
|
|
$
|
1,561
|
|
|
$
|
2,210
|
|
|
$
|
3,194
|
|
|
$
|
5,169
|
|
|
$
|
9,160
|
|
|
$
|
22,874
|
|
|
$
|
21,684
|
|
|
Total EBITDA(5)(7)
|
|
$
|
19
|
|
|
$
|
8
|
|
|
$
|
—
|
|
|
$
|
20
|
|
|
$
|
58
|
|
|
$
|
229
|
|
|
$
|
381
|
|
|
$
|
568
|
|
|
$
|
997
|
|
|
$
|
1,761
|
|
|
$
|
4,041
|
|
|
$
|
3,994
|
|
|
% of Senior Loans(5)(8)
|
|
|
96
|
%
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
29
|
%
|
|
|
63
|
%
|
|
|
61
|
%
|
|
|
53
|
%
|
|
|
46
|
%
|
|
|
45
|
%
|
|
|
72
|
%
|
|
|
56
|
%
|
|
|
56
|
%
|
|
% of Loans with Lien(5)(8)
|
|
|
100
|
%
|
|
|
61
|
%
|
|
|
0
|
%
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
87
|
%
|
|
|
78
|
%
|
|
|
83
|
%
|
|
|
95
|
%
|
|
|
88
|
%
|
|
|
88
|
%
|
NM = Not meaningful.
|
(1)
|
Static pool classification is based on the year the initial investment was made. Subsequent add-on investments are included in the static pool year of the original investment.
Investments in government securities and interest rate derivative agreements are excluded.
|
|
(2)
|
Assumes investments are exited at current fair value and includes fees.
|
|
(3)
|
These amounts do not include investments in which the Company owns only equity.
|
|
(4)
|
For portfolio companies with a nominal EBITDA amount, the portfolio company’s maximum debt leverage is limited to 15 times EBITDA.
|
|
(5)
|
Excludes investments in commercial mortgage backed securities, collateralized debt obligations and European Capital, Limited.
|
|
(6)
|
Sales of the most recent twelve months, or when appropriate, the forecasted twelve months.
|
|
(7)
|
EBITDA of the most recent twelve months, or when appropriate, the forecasted twelve months.
|
|
(8)
|
As a percentage of our total debt investments.
|
|
(9)
|
Excludes investments in commercial mortgage backed securities and collateralized debt obligations.
|
|
(10)
|
Excludes equity investments that are the result of conversions of debt and warrants received with the issuance of debt.
|
|
(11)
|
Excludes investment in American Capital, LLC.
|
82